by ETFguide | January 17, 2014 8:01 am
Should you really be buying stocks because interest rates sit near all time lows?
A stampede of maniacs promoting the “There Is No Alternative” (TINA) theory wants you to brainwash you. Are they wrong?
“There is no alternative” is the new popular Wall Street axiom in the latest attempt to get the public to dive into equities by shifting assets out of bonds. TINA cheerleaders suggests that because bond yields are near all time lows, investors should not be investing in them.
Although bond yields do sit near all time lows, TINA is a flawed investment philosophy.
Investing in A Low Yield World
The general premise behind the TINA (There is No Alternative) theory is that with such low interest rates, the only logical place to park money is in equities. The theory is that all time low interest rates provide very little returns, and these low yields make owning bonds undesirable.
But here is the problem with this strategy. It does not take into account any differences in risk parameters, any future changes in interest rates, or the fact that all assets are yielding comparably very little, even equities.
Indeed interest rates are at all time lows, but equity dividends also are at all time lows, making equities no more desirable than Treasuries from a yield standpoint, and even less desirable once risk is taken into account.
WATCH: Is Your Portfolio Really Diversified?
Investing is all about tradeoffs and choices, and choosing to disregard bonds because of their low yields should be no different than choosing to disregard equities for their low yields as well. And, of course this is not occurring as investors still reach for yield in equities, pushing P/E ratios toward 20x.
Right now the yield on the 10-year Treasury (IEF) is around 3% and the yield on the 5-year Treasury is around 1.7%. The dividend yield for the S&P 500 meanwhile is at all time lows, around 1.8%.
With the 10 Year Treasury actually yielding more than equities, this means investors are not rushing into equities for their yields, but for their potential returns of capital gains, and that creates an extreme mismatching of risk between the safer investment, U.S. Treasuries, and the riskiest of investments, equities.
Your Wake Up Call
The following chart was one of a few provided to ETF Profit Strategy Newsletter subscribers on 11/22 and shows that in reality the TINA (There is No Alternative) crowd is likely wrong at exactly the wrong time.
At current prices, equities (SPY) are reaching the most expensive levels they have ever been when priced in comparable 5 Year Treasury prices (TLT). The only other times equities were this expensive compared to Treasuries was early 2000 and late 2007, just before major equity market declines kicked off and the stocks versus bonds ratio swung back toward equilibrium.
Bottom line: The TINA crowd is going all in equities at exactly the wrong time when they should instead be looking at buying Treasuries as protection from an equity market that is near its historical extremes.
Rising interest rates make the current equity valuation situation even worse. As rates rise, bond prices fall, making equities that much more expensive compared to yielding products. This means when the markets inevitably move back to equilibrium, equities will fall much faster than Treasury prices.
These rising interest rates have already begun but have not been a surprise to us as we have been able to get ahead of them. Seven months ago, we were warning that a rising interest rate environment was around the corner as our Technical Forecast readers were provided analysis, charts, along with a May 2013 trade alert:
“Continue to switch bonds into shorter durations” and “shorter term bonds such as the iShares 1-3 year Treasury bond (SHY) or the Barclays 1-3 month T-Bill (BIL) remain the safer place for your bond money”.
More practically speaking, as interest rates rise (STPP) Treasuries become more attractive than equities as a yield investment, exactly opposite what the TINA crowd is selling. Rising yields also will have a very negative effect on equity valuations as interest costs and discount rates rise, causing multiples to contract.
To learn more about the risks of the TINA strategy, check out the December issue of the ETF Profit Strategy Newsletter where we examine the tradeoff between equities and bonds and why shorter duration Treasuries are the much more attractive investment at current lofty equity prices.
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