08.05.03
We understand that there is no such thing as a risk free investment. We understand that when prices reach historic highs that this is when we should look at the warning sings and perhaps readjust our thinking. And despite all of our recent experience, we continued to pour money into bonds, specifically Treasuries even as we watched the deficits increase and the possibility than billions of dollars of new bonds would be sold.

So when the bottom fell out of the bond market, a move that was described as violent by almost ten different reports that I read or heard, we new age thinkers were long gone. Right? A holder of a 10 year $1,000 bond will have seen the income that should have been produced sliced by 11% or roughly $110. Three years of income gone in what seems like a heart beat. The 30-year Treasuries lost 19%.

When bond prices fall it should go without saying, yields go up. This is an attractive alternative to the prospect of a slow stock market and will likely find pension managers looking hungrily at the prospects of a better return.

All of this will give the FED another headache of its own making. Mr. Greenspan would love to see the threat of deflation go away. The only way to do this is with a steady increase in inflation. This would probably force him to raise short term rates which would negatively impact the stock market and surprisingly, the bond market as well. With two exceptions. The first being TIPs. These bonds tied to the rate of inflation would become the bond of choice among those who are sensitive to income loss. The gamblers in the bunch will find municipal bonds increasingly attractive as budget shortfalls push municipalities to the bond market to solve their short term problems. The later exception will pay handsomely for the increased risk. Neither is enough to hold any part of the mixture together I'm afraid.

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