Bonds and Stocks are Not Perfectly (Un)Correlated But...

[dualstow]

Long bonds are by no means guaranteed to zig when stocks zag. There are two things that keep me watching when I should just be watching Netflix:

1) I am supposed to sell bonds when there are only 20 years left on them.
2) A government agency is in charge of interest rate rises, even if economic conditions largely dictate the When and the By How Much.

Despite knowing about the zig-zag non-guarantee, do any of you feel like bonds could shoot up if the stock market fell significantly *before* Yellen decides to raise rates?  I do, although it's not scientific. I just feel like the money has to go somewhere, and there could be a fearful flight to quality.

I'd call it wishful thinking except that in (vp+pp) I have far more in stocks than in anything else.

[rickb]

You need to remember that the Fed directly controls only short term interest rates.  There's no guarantee long term rates will go up in lockstep with short term rates.

Regarding long term bonds shooting up if the stock market significantly falls - the correlation between stocks and long term bonds (and each of these to gold) is close to 0.  This means their prices move essentially independently of each other.  So, sure, LT bonds (and/or gold) could shoot up if the stock market crashes.  Or they could just sit where they are.  Or all three could go down together.  But this is the short term view.

Reliably zigging when something else is zagging would be a correlation near -1 and isn't what you want.  If you had equal amounts of two investments that had a correlation of -1 you might as well hold physical cash.  Over the long term, you'd get nowhere at all.  Over the long term stocks, long term bonds, and gold ALL go up.  Their pairwise correlation being near 0 means they follow completely different paths.

[barrett]

Despite knowing about the zig-zag non-guarantee, do any of you feel like bonds could shoot up if the stock market fell significantly *before* Yellen decides to raise rates?  I do, although it's not scientific. I just feel like the money has to go somewhere, and there could be a fearful flight to quality.

I think bonds could shoot up regardless of what Yellen does. But it's important to remember that their performance in 2008 is not repeatable unless prices are bid way up (interest rates on the long end drop super low). In 2008 I think they started from a floor of about 4.5% on the 30-year bond. As I write this the yield is 2.9%.

The money can also flow to cash.

Ah, the yield just dropped to 2.8960!

[dualstow]

Thanks, guys.

Rick, I guess I already wrote that there's no guarantee and no perfect zig-to-zag, so of course I agree with you. However, perception seems to be influencing the bond market. This time around, the majority didn't really seem to care that Yellen spoke of raising rates again soon. When they think she means it, I guess they're going to want to be out of long bonds.

I mean, when short term interest rates go up, who wants to hold long bonds with similar rates? PP'ers maybe, but we are too few.

Barrett: yes, it could definitely flow to cash. Especially if short-term interest rates go up significantly, per paragraph 1 here. Yikes.

[barrett]

I mean, when short term interest rates go up, who wants to hold long bonds with similar rates? PP'ers maybe, but we are too few.

Hmm. I don't think a hike on the short end necessarily means much for the other end of the curve... maybe in the short run, yes. But US long bonds still have a decent yield when compared to European or Japanese bonds. For lots of institutions who need a safe place to park a few hundred million bucks, US 30-year bonds might not be a bad place.

Look Dualstow, you know I am basically a moron so take it all with a grain of salt. But there are just a lot of people right now who are making a long-term bet that rates are going to stay low for a long time. And I say all this as someone who doesn't really like long bonds at current yields.

[dualstow]

You're not a moron at all, and I have no illusions: I'm at the bottom of the totem pole when it comes down to the workings of bonds and other instruments. That's kind of what led me to the pp in the first place. I tend to think of myself as a wise fool. Your responses are always welcome, in any case.

I remember reading the computer section of a forum in which a member said, in his Russian-grammar English, that one should not post about things one doesn't know about. I replied that it would be hard to learn anything if novices refrained from asking potentially stupid questions.

Regarding the long bond yields, I'm *still* rubbing it in that I bought much of mine in 2010 despite my older, wiser friend shaking his head and telling me that the yield was "only 4.x%" I paraphrased Clint Eastwood, "Yield's got nothing to do with it" and pulled the trigger. (The, uh, bond-buying trigger, only).

[dualstow]

Despite knowing about the zig-zag non-guarantee, do any of you feel like bonds could shoot up if the stock market fell significantly *before* Yellen decides to raise rates?

I guess I don't have to wonder about this anymore. We can just watch it play out this month.