A very dangerous and costly trap is developing in the debt markets and it is pointed right at retired investors.
Since the end of January, record amounts of money have been pouring out of stocks and into bonds. But this is not the usual flight to safety.
Seven times as much money has been dumped, and I mean dumped, into bond funds, as came out of the stock funds. About $28 billion came out of stocks. About $179 billion went into bond funds.
Those numbers are new records for both.
And both moves are happening at the worst time for both bond funds and stocks.
Obviously, after a five year run up and 30% just last year from stocks, we have to have some kind of sell-off. The laws of the market require it. But, as with every other sell-off for as far back as anyone can count, selling after the drop is a guaranteed losing strategy. Always has been, always will.
But the usual stupid selling at the bottom is not what really concerns me. It’s buying bond funds when the Fed is tapering their bond buying. The move is designed to drive rates up which will drive bond fund share prices down. Buying bond funds now is nuts.
I don’t care that Treasurys have been rallying in the last few weeks despite the beginning of the tapering. When the tapering takes hold, and it has to, rates will rise and, as they do, the share prices of bond mutual funds will plummet!
When the average Joe finally realizes the mistake he has made there will be a huge exodus out of the funds, which will just drive fund share prices even lower. Add the effects of the leveraging funds use to boost their returns and you have a real nightmare in the making.
And, as I have said many times in the past, bond funds, especially government bond funds that own treasuries and other government securities, will take the biggest and costliest hit. They will because despite the fact that they are guaranteed, they have the highest correlation to interest rate changes.
In a recent article, I referred to what is happening now in bond funds as the Alamo of the small investor. He took it hard enough in 2008 and early 2009 but, when this one unravels, he won’t even know it is happening until it is too late.
What is going on in bond funds is not a flight to safety. It is a rush to a very poor retirement.
By the time you guys get this I will be on the club’s cruise from Australia to Bali. Look for the short videos I will be sending back from the Timor Sea, the Great Barrier Reef and Bali. They should be a riot. We’re going to do our best to have some fun with them.