Winter is Coming: Stark Reality for Bonds

Bond investors should be cautious in the face of negative interest rates and ten-year Treasury notes trading at near-record-low yields.


“Winter is coming.”

Fans of Game of Thrones will immediately recognize these words, uttered by Ned Stark in the first episode of the popular HBO series — and repeated frequently by him and members of his family. As head of House Stark, Ned is warden of the North, one of the seven kingdoms that make up the continent of Westeros. Seasons in this fictional land — meant to be roughly the size of South America, according to creator George R.R. Martin — vary in length, can last several years and are difficult to predict. When the story begins, Westeros has just enjoyed a peaceful and prosperous decadelong summer, but, as Ned Stark cautions, a cold and dangerous winter is fast approaching.

Fixed-income investors may want to heed his warning. After more than three decades, the bull market in bonds may finally be coming to an end. In early July the yield on ten-year Treasury notes hit an all-time low of 1.37 percent, down from 1.74 percent just two weeks earlier, as nervous investors sought safe haven in the wake of the U.K. vote in favor of Brexit. The yield was even lower than in June 2012, when ten-year Treasuries fell below 1.5 percent for the very first time on fears of Europe’s then-deepening debt crisis. The Brexit-induced panic was short-lived, however: Equity markets rebounded after the Conservative Party chose former U.K. Home secretary Theresa May to be that nation’s new prime minister. Still, with a yield of 1.54 percent on July 14, ten-year Treasuries were anything but cheap.

“There’s something of a mass psychosis going on related to the so-called starvation for yield,” DoubleLine Capital CEO Jeff Gundlach told investors during a call two days earlier. “Call me old-fashioned, but I don’t like investments where if you’re right you don’t make any money.”

Gundlach, who has earned the title of Bond King for his prescient market calls in recent years, has been stuffing DoubleLine’s flagship $60 billion Total Return Bond Fund with high-quality paper (principally, agency and other mortgage securities) and cash. At the end of June, the fund had just 3.4 percent of its assets in Treasuries, which Gundlach predicts will rise in yield to 2 percent next year.

For proof of the madness in the bond kingdom, investors need look no further than Germany, which in July became the first euro zone nation to issue debt with a negative yield. Buyers of ten-year Bunds are essentially paying the German government for the privilege of lending it money. The leaders of Westeros may want to remember that the next time they visit the Iron Bank of Braavos looking to finance one of their wars.


Follow Michael Peltz on Twitter at @mppeltz.