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You'll rue the day you bought 10-year notes: Stockman

Nicole Goodkind
Nicole Goodkind

Janet Yellen begins her September FOMC meeting today where she will meet with Federal Reserve Board Governors and Fed presidents from across the country to discuss current Fed Policy. The Fed’s bond-buying stimulus program is still expected to be completed by October, but Fed watchers are waiting with baited breath to see if Yellen will announce a revised timeline for raising short-term interest rates.

“Considerable time,” are the two words on investors' minds. That’s the language the Fed currently uses to describe when they will hike rates. When the FOMC delivers their statement on Wednesday afternoon, markets will certainly react to whether that language is revised, erased or stays the same.

The great taper

Despite fears that tapering stimulus would lead to higher interest rates, the yield on the 10-year treasury has fallen nearly 15% this year. This is “because the overnight money market rate is still 0%,” says David Stockman, author of The Great Deformation. “That means the Fed has its big fat thumb on the scale.”

Stockman doesn’t believe that this taper has dialed back any of the “morphine” that the Federal Reserve has been pumping into the economy through its stimulus programs. The technique is changing, he says, but so long as the Fed keeps the market believing that “the bid will be there, that the Fed has got a ‘put’ under the market” then yields and markets will continue to be mispriced.

Stockman believes that people who bought bonds and prospered because of the “short-term” rally will, “rue the day they did.”

With the inflation rate at 2% (the Fed's target rate) and taxes not abolished, owning a 10-year bond that is yielding around 2.5% makes no sense, says Stockman. “It’s not even covering inflation or taxes in a world where you see huge problems everywhere… China is a house of cards, going to collapse any day and Japan is already going bankrupt. Europe is in a huge paralysis; the ECB is lost; there are wars cropping up all around the world.” In the current global economic environment, says Stockman, there’s plenty of danger on all points of the compass.

Don’t fight the Fed?

Government bonds have earned $1 trillion in investment returns since 2008 when the Fed dropped interest rates near zero and began its bond-buying program. That’s a lot of lost money for those who listened to critics denouncing Fed policy. So is the lesson here not to fight the Fed?

“I think the lesson is that the Fed can implement utterly destructive policies for a period of time but they can’t be sustained,” says Stockman.

Markets are vastly inflated, according to Stockman, as a result of central bank intervention, and they will reverse and re-price. He says “a day of reckoning will come.”

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