“The 40-Year Bull Market In Bonds Ended”: Exclusive ZH Debate With Fleckenstein, Rosenberg, Bianco

On Friday (10/4/24), Jim participated in a bond market debate with David Rosenberg, moderated by Bill Fleckenstein. Enjoy the full debate and read below for the highlights.

Bianco’s opening argument:
“I have been of the opinion that the long-term economic cycle turned in 2020. That the 40-year bull market in bonds ended in August of 2020 when the 10-year yield hit 51 basis points on closing.”

“That cycle corresponded with a financial crisis and a recession around the shutdown-restart of the economy with Covid in 2020. I believe that every time you see a financial crisis and a recession – and we had both – the economy changes.”

“Coming out of that we are now in a period of higher nominal growth, stickier inflation at around 3%. First move in interest rates was from 0 to 5%. That was extraordinarily painful for any bond investor because you had no coupon to cushion you. The total return losses were among the worst ever records. But now we’re on the backside of that. We’re at a 5% yield.”

Bianco predicts that interest rates along the yield curve will settle in the 4 to 5% range. They currently sit around 3.5%.

“We’re going to overstimulate and we’re going to see an inflation problem in the back half of ‘25, and the bond market will start sniffing that out well before that.”

Rosie’s opener:
“If you look at the chart, there’s nothing sticky about inflation. It’s come down almost as fast as it went up.”

“I don’t know so much about Jim’s comment that we’ve seen some big secular shift,” he continued. “We had a severe depletion in the supply of labor [due to the pandemic] at the same time when we had no productivity growth. So we had a very inelastic supply curve for a period of about 18-24 months and it bumped against all the rampant fiscal stimulus and monetary stimulus.”

“In fairly short order, inflation goes from 0 to 9%.”

Rosenberg sees the COVID stimulus as having largely worn off. He’s now noticing a rapidly increasing labor supply along with rising productivity while demand has not kept up… “an absolute inflation killer.”

Where is inflation headed?
According to Rosenberg, pressure from the lockdowns forced businesses to "digitize and automate and become Amazon or you’re going to go under." This trend is responsible for the productivity boost as firms cut labor costs and became more efficient.

Meanwhile, Rosenberg suggests that a "One-Party Rule" - wherein either the republicans or democrats sweep both the Presidency and Congress - is a black swan event that could bring inflation back, as both parties are addicted to spending. He also predicted increasing oil prices and shipping disruptions “if the war really turns ugly” between Israel and Iran.

Of note, Iran is the 9th largest oil producer in the world, pumping 4 million barrels daily, and 3rd largest natural gas producer.

Bianco countered that inflation is here to stay due to housing prices — on a per square footage basis still increasing despite lower sales volume - driven by increased immigration as well as fiscal spending, which he sees no sign of slowing down regardless of party.

"At 23 or 24% of GDP, we are currently spending more now than did in previous recessions expect for COVID and the financial crisis [of 2008]. You look at any recession other than those, the current level of government spending is higher now than at the peak of any of those recessions."

"That alone should probably keep the inflation rate sticky because of the massive demand push that you’ll get from the government."

"Animal Spirits" in the Bond Market
While Rosenberg stated strongly that the bond market is “just math,” Bianco and Fleckenstein questioned whether bond traders are susceptible to the same emotional swings as equity traders.

“Please explain to me negative interest rates,” Bianco asked. “And why bond managers were willing to buy negative interest rates?”

Rosie: “Negative interest rates were perpetuated by Central Banks.”

Bianco: “Nobody forced my managers to buy negative interest rates.”

Fed Cutting Cycle
Fleckenstein highlighted the unusual sell-off in the 10-year after the Fed cut the FFR by 50 basis points (unusual because lower Fed rates typically beget lower outer yield curve rates).

"Happens almost all the time," said Rosenberg, citing several examples in recent history. “There’s always an initial knee-jerk risk-on trade after the first cut. This is actually not abnormal at all.”

But is Fed policy so thoroughly telegraphed in advance that its effect on markets is largely inert? “Everybody expects interest rates to go down because they’ve been told over and over that the Fed is going to cut rates hundreds of basis points over the next year,” Bianco said, pointing to the 2-year/FFR spread at records lows (meaning the 2-year is pre-emptively leading the FFR in the downward direction at one of its largest margins in history - ie… more cuts).

“It’s all priced in..."