I get uncomfortable when I can’t understand what’s going on in the markets, and I’m not really happy with my explanation for the weirdness of the Treasury market over the past few months. Given that pretty much everything else rests on Treasurys behaving sensibly, my level of discomfort is high.
The core of the problem is that as inflation soared, bond yields fell, creating an instant contradiction: Inflation is poison to bond investors, so they would normally be expected to sell. I have an explanation, but it isn’t perfect.
My take: Investors came to the realization that the huge post-pandemic debt burden will keep rates lower than in the past, while they kept faith that inflation will be manageable. There is little to indicate investors fear a recession-inducing mistake by the Federal Reserve, and they aren’t expecting runaway inflation either.
The market response from March to the start of this month can be thought of as pricing in a repeat of the secular stagnation brought on by the 2008 financial crisis, with the twist of slightly higher inflation than in the past decade.
Pramod Atluri, a fixed-income portfolio manager at Capital Group, says this is akin to “too much debt and too much money in the system.”
