The Identification Process
The first step to avoiding a bond market meltdown is to identify when it begins. That’s not the easiest task, but here is one key metric to watch that will telegraph this move: interest rates.
Specifically, interest rates on long-term Treasury bonds such as the benchmark 10-Year Treasury note. These rates, set by the buying and selling of bonds in the secondary market, will begin a sharp rise long before any official action is taken by the Federal Reserve to raise the Fed Funds Rate. On Dec. 26, rates on the 10-year spiked to a new 52-week high of 3%. The breaching of this key level means we could see rates spike even further very, very quickly.
Now, a lot of investors I speak with are under the misconception that it won’t be until the Fed takes action that the bond bubble will begin to burst. This notion is flat-out wrong. You see, the equity and bond markets are forward-looking mechanisms. That means that markets will act in front, and in anticipation of, any official policy action. When the smart money, i.e. the fast money on Wall Street, begins selling bonds, yields will begin to really rise—and that will be your cue that a bond meltdown is heating up.