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The Treasury Bubble is Deflating...

Sell This NOW!

Written by Briton Ryle
Posted February 11, 2013

“I plan to short more. That bull market, that’s a bubble.”

That's what legendary investor Jim Rogers told Bloomberg last week.

Here's what he was talking about:

TLT 2 year

That's a five-year chart of the Barclays iShare 20+ Treasury Bond ETF (TLT). It tracks Treasury bonds with a maturity of 20 years or more. The TLT, as it's called, has performed pretty well (+35%) since the Fed started whacking interest rates with its QE hammer...

It also looks like a bubble. Worse still, it looks like a bubble that's deflating: Prices have been falling steadily since November 2012.

Yes, Jim Rogers is about to make some money. Question is: Are you about to lose money?

Rogers has already sold a bunch of Treasuries short with the expectation that he can buy them back at a lower price to cover his short position. Well, the price is lower — and it's probably gonna get lower still.

Rogers isn't the only member of the “smart money” crowd who's telling investors that bonds are a bubble, destined for lower prices. The greatest bond investor of all time, PIMCO's Bill Gross, says the selling in Treasuries is far from over. You can add Goldman Sachs and Wells Capital Management to the list who think the risk is rising for Treasury prices.

Of course, you can always be sure any asset manager who comes out and tells the public that one particular asset is about to fall in price stands to benefit from that fall in price. The same is true here.

There should be no doubt that all these talking heads have participated in the Great Rotation out of bonds and into stocks. Some, like Rogers, are even using a short sale to profit from a fall in bond prices.

Still, it doesn't take keen insight to see why these influential investors think the time is right to push Treasury prices lower. One look at that chart will tell you it's time to get out of Treasury bonds.

I wonder how much pain bond investors can take before they sell...

How Low Can You Go?

Treasury bonds are called a safe haven. But that doesn't mean that you can't lose money in bonds. You can... a lot of it.

Looking at that TLT chart, it's easy to imagine another 10% drop to $105. That would still leave bonds at an elevated level. More likely, a 23% drop to $90 is in the works — a move that would wipe out all gains, except for the paltry interest payments. On the upside, there's 11% back to the all-time high at $130.

An 11% gain or a 23% decline...

This is a simple matter of risk vs. reward. At 2:1, bond investors are risking 2 to make 1. Quite simply, there's not enough reward to offset the risk. Again, how long before the selling intensifies?

Now, I'm not one of those analysts who will tell you that bonds have been a terrible investment over the last few years. It's wrong to say the Fed has punished “savers” who keep their cash in the Treasuries' safe haven. This ETF, the TLT, has risen 35% since the beginning of 2011 — and that's after the recent sell-off.

However, I am one of those analysts who wonders how much more downside there could be for Treasury prices... All it would take is for economic data to keep improving.

What Drives the Bond Market

Most bond investors are too focused on the Fed's interest rate policy. So they tend to breathe a sigh of relief when the Fed says rates will stay unchanged until unemployment hits 7.5%, probably sometime in 2014.

The problem is they are focused on the wrong thing. It's the Fed's quantitative easing that's keeping rates where they are.

If the Fed stopped buying $80 billion in mortgage bonds a month, interest rates would absolutely jump 20% virtually overnight. Then bond investors would be trapped, with virtually no hope of recouping those losses.

This is going to happen. And it will probably be this year.

Why? Because the economy is improving.

Like it or not, non-farm payrolls are trending higher. The economy added 675,000 jobs in the fourth quarter. That was the second best quarter for jobs since the financial crisis. The housing market is getting better, too. So is manufacturing.

There's no doubt individual investors are warming up to stocks; money has been flowing out of bond funds and into equity funds in what's being called the Great Rotation.

There's no two ways about it: Bond prices are going to fall.

There are put options available on the TLT if you want to make some quick cash on the bursting bond bubble.

I've got some other ideas for you, too...


20% in Six Weeks

My name is Briton L. Ryle. I co-manage the income-focused Wealthy Advisory newsletter with Brian Hicks.

Over the last 14 months, we've put together a near-perfect portfolio of income investments that is trouncing bonds and the stock market.

So far in 2013, the S&P S&P 500 is up around 7%. The Wealth Advisory portfolio is up a little better than 20% in the same time.

This outstanding performance wasn't achieved by hitting a couple big winners from a bunch of risky speculative stocks. No, we've achieved these gains the old-fashioned way: By carefully constructing a diversified portfolio of solid companies that pay above-average dividends.

One of my favorite dividend stocks to hold for the long term is Starbucks (NASDAQ: SBUX). At 1.5%, the dividend isn't large — but we think there's a lot of upside for this payment... Starbucks only pays out 39% of earnings for this dividend. With 18% yearly growth for the next five years, Starbucks' shareholders will be rewarded. The Wealth Advisory is currently up 23% on this stock.

We also recommended Bank of America (NYSE: BAC) at $9 a share in November on the expectation that it will be raising its dividend soon. BofA currently pays just $0.04 a year, but we believe that will jump as high as $0.24 after the Fed releases the latest stress test results in March. Our readers are up a nice 30% in four months on this stock.

I'm not allowed to say that I guarantee these stocks will beat the performance of bonds, but I'm pretty confident they will.

We've also positioned ourselves for long-term gains from one of the biggest demographic trends in U.S. history: the aging of the baby boomer generation.

We've targeted a couple health care REITs that pay 6% and 7%. And the stock prices have some upside, too. Plus, our No. 1 pharmaceutical stock currently pays 3.5%, but there's a little-known catalyst that could push that dividend up 50% this year...

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Remember, bonds are the most overbought they've been in 25 years. Sell them now and focus on stocks that pay a safe dividend and offer you some upside.

Until next time,

Until next time,

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Briton Ryle

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A 21-year veteran of the newsletter business, Briton Ryle is the editor of The Wealth Advisory income stock newsletter, with a focus on top-quality dividend growth stocks and REITs. Briton also manages the Real Income Trader advisory service, where his readers take regular cash payouts using a low-risk covered call option strategy. He is also the managing editor of the Wealth Daily e-letter. To learn more about Briton, click here.

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