Our bond model remains positive, yet bonds are not widely loved. Can you blame investors? With yields so low, how much more can we get out of this bond bull? It is a conundrum of sorts as the bond model is bullish, but the price action has been blah– a consolidation at best. I contend that the push for lower yields (higher bond prices) is an early sign of economic weakness, and once economic weakness (i.e., stock market weakness) is broadly recognized, this should spark fresh rumors of new asset purchases by the Federal Reserve. This is bond positive. This was the 2011 playbook, and there is no reason to think that it won’t play out in 2012.
In any case, without price appreciation in bonds, it is reasonable to ask if the analysis is wrong, just early, or have bonds truly flamed out — no matter what the model says investors just aren’t interested. Or to put my concern another way: is it just dead money investing in bonds – no matter how good the analysis or how correct the analysis may turn out to be, there is little chance of price appreciation? Of course, time will tell, but let me suggest another way to capture the positivity of the bond model, and this is to invest in utilities.
As outlined previously, when the bond model is positive, utilities out perform particularly when there is economic growth. A model back tested on 37 years of Dow Jones Utility data captured a buy and hold return with one third the market exposure and with significantly less draw down. Out of the 65 trades from this strategy, only 2 were ever closed out for a loss of more than 5%.
The utility sector may be a way to get that positive action that we are not currently getting from bonds, and it may be a way for investors to diversify into assets that have underperformed over the past 6 months.