What Does a Bond Collapse Mean for the Stock Market?


Hindsight is 20/20 and for years, investors have been following the advice of major names in finance who anticipated market collapse...or rather, were very vocal about it after the fact. While I doubt we are anywhere near a market collapse (at least not one caused by a major event which can happen any time), former Fed Chair, Alan Greenspan, warns that a bond market bubble is the biggest threat to the stock market right now.

In an article from Investopedia, Greenspan was noted as saying according to the Fed Model (see below) US stocks are priced at one of the most attractive levels ever, at least for the moment, in relation to bond prices.

In comments to Bloomberg, Greenspan was quoted as saying, "by any measure, real long-term interest rates are much too low and therefore unsustainable. When they move higher they are likely to move reasonably fast. We are experiencing a bubble, not in stock prices but in bond prices. This is not discounted in the marketplace."

Greenspan believes that long-term interest rates will turn upwards when central banks begin withdrawing liquidity from their financial systems by selling bonds. As such, bond prices will collapse and will turn into the worst case of stagflation since the 1970s.

Interest rates are expected by just about everyone else to remain low for now, so the point is not meant to frighten everyone, but just to remember that you need to remain vigilant about occurrences in the market and this will help with great market decisions long-term.

What does the Fed Model Say?

"The so-called Fed Model consulted by Greenspan, as explained by Bloomberg, compares the yields on 10-year U.S. Treasury Inflation Protected Securities (TIPS) to the earnings yield on the S&P 500 Index (SPX). The current figures are 0.47% and 4.7%, respectively, per Bloomberg, which notes that the gap between the two measures is 21% greater than its 20-year average. For those who subscribe to this analytical framework, high valuations for stocks are justified for now. However, another spin on this analysis, per Bloomberg, is that investors are justified in buying the less inflated asset. If bond prices rapidly deflate, as Greenspan foresees, stock prices will soon follow."

Featured Posts
Search By Tags
No tags yet.

© 2018 by Jennifer N. Coombs and GradMoney. Proudly created with Wix.com

 

All rights reserved. Use of this Site constitutes acceptance of our terms and conditions and privacy policy.

 

Restrictions: The material on this site may not be reproduced, distributed, transmitted, cached or otherwise used, except with the prior written permission of GradMoney or Jennifer N. Coombs.

 

Disclaimer: All data and information provided on this site is strictly the author’s opinion and does not constitute any financial, legal or other type of advice. GradMoney, nor Jennifer N. Coombs, makes no representations as to accuracy, completeness, suitability, or validity of any information on this site and will not be liable for any errors, omissions, or delays in this information or any losses or damages arising from its display or use. We also do not make any personal investments on behalf of readers, nor do we offer specific trading recommendations to readers. GradMoney is not a licensed broker dealer. All investment actions as a result of GradMoney’s articles are to be made at the discretion of the individual investor. All investments contain risks; GradMoney assumes no liability for any loss of income or principal.

 

All questions or inquiries my be directed to the attention of Jennifer N. Coombs.