When the financial history of this decade is written, it will surely speak of the Internet bubble of the late 1990s and the housing bubble of the early 2000s. But the U.S. Treasury bond bubble of late 2008 may be regarded as almost equally extraordinary.
Clinging to cash equivalents or long-term government bonds at present yields is almost certainly a terrible policy if continued for long. Holders of these instruments, of course, have felt increasingly comfortable – in fact, almost smug – in following this policy as financial turmoil has mounted. They regard their judgment confirmed when they hear commentators proclaim “cash is king,” even though that wonderful cash is earning close to nothing and will surely find its purchasing power eroded over time.
Concern that demand for US Treasuries will dry-up are likely overdone as investors will continue to seek a return of principal rather than Mr. Buffett's return on principal argument. Hyperinflation is not around the corner. Let's review my prior post, Gold - No Liabilities Attached:
Inflation is not right around the corner. Demand for all goods and services continues to decline and consumers across the country remain concerned, and rightly so, about the job market. The monetary printing to come from the Obama administration's stimulus package and the bank and auto bailouts will not cause runaway inflation. Credit is the key driver to inflation and both demand for and supply of credit are shrinking. Until the growth of credit recovers hyperinflation concerns are overdone.
Is the drop in the 10 year treasury yield another bubble waiting to burst or do the low yields represent deflation and real interest rates near normal levels? As fear retreats treasury investors will require higher yields but not in a bubble bursting manner as many are predicting.
The move into treasuries is not speculative, it represents the ongoing problems in the financial system, the eroding economy, and the lack of a real solution to the problem. Until the clear downtrend in yields since their peak in the early 1980's is broken US treasury bonds remain a place to preserve capital.
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Recommended Amazon Reading
The Bond Book: Everything Investors Need to Know About Treasuries, Municipals, GNMAs, Corporates, Zeros, Bond Funds, Money Market Funds, and More by Annette Thau
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