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Abe Vigoda is Dead, but the Bull Market for Fixed Income Is Not

“Tom, can you get me off the hook, for old time’s sake?”—Sal Tessio

Abe Vigoda was a beloved American actor who played a key role (Sal Tessio) in one of the greatest films in American movie making, “The Godfather.” After “The Godfather” in the early 1970s, Mr. Vigoda played the role of Detective Fish on the very popular TV series “Barney Miller.” Abe was so good that he even got his own spinoff show, “Fish.”

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Avoid Tuning the Wrong String

“When the facts change, I change my mind. What do you do, sir?” – John Maynard Keynes

A couple of nights ago, I was helping my son tune his cello. I have no musical talent or knowledge of string instruments other than I like how they sound. However, my son tells me I do a pretty darn good job turning the tuning pegs to help him get the instrument in tune.

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Where, oh Where, Have the Bond Vigilantes Gone?

Back in the days of yore—before the financial system blew itself up—there was a group known not by individual name but rather by the title of “Bond Vigilantes”! This mysterious group was known to keep order and exact punishment when they believed that central banks were running monetary policy too accommodative or governments were increasing fiscal deficits.

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Death and Taxes: the Former is Certain, the Latter Not So Much

“The only difference between death and taxes is that death doesn’t get worse every time Congress meets.”

—Will Rogers

High drama in Washington, D.C.! The GOP tax bill hangs precariously as the Senate Parliamentarian has ruled that “triggers” would raise taxes if tax cuts do not promote enough economic growth to cover a decline in tax revenues from the tax cuts.

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Threading the Needle

A very interesting article appeared in Bloomberg News this week: “Trump Counts on Fed to Help Sustain Economic Bump from Tax Plan.

As written in the article, “The Trump administration is banking on the Federal Reserve not to squelch any bump in economic growth from the Republican tax plan. White House chief economist Kevin Hassett argues that the tax overhaul will boost productivity, allowing the U.S. economy to grow more rapidly without risking a damaging bout of higher inflation that would be an anathema to the Fed.

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The "Bank of Amazon" Shouldn't Happen

In 1999, I lived in Great Falls, Virginia, working for Freddie Mac. Many of my neighbors were part of the “dot-com” boom. One night, one of my neighbors (who was then a millionaire on paper from his company that built websites) and I went down to the local pub, where we met one of his “dot-com” friends. From what I could tell, neither of their companies was even close to making money, yet their companies’ stock prices were soaring.

Meanwhile, at Freddie Mac, which had a net profit of billions, my stock had dropped quite a bit. Back then, everyone was using the terms “new economy” and “old economy.”

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The 800-Pound Gorilla Skipped Lunch

This past week was a bad one for the bond market, no question. The 10-year Treasury note broke through 2.40%, all three treasury note auctions (2-year, 5-year, and 7-year ) went pretty poorly, even at elevated yields, and big-name investors like Jeff Gundlach started talking about a 3% 10-year on the not-so-distant horizon. I think that in ordinary times, the improvement in the global economy would definitely warrant such concerns. In fact, I think we have gotten so accustomed to a 10-year Treasury note yield under 3% that 3% seems like a fabulous deal! Yet, when you step back and look at it, taking the duration risk of a 10-year treasury note for a yield of 3% is still a pretty lousy bargain in ordinary times.

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Quantitative Easing and Money Magic

This month, the Federal Reserve (Fed) has begun to “taper” the reinvestment of its $4.2 trillion balance sheet and wind down its extraordinary monetary policy of Quantitative Easing (QE). The Fed will do this by instituting caps on reinvestment of Treasury notes maturing and Mortgage Backed Securities (MBS) paying down principal. The program will reinvest Treasury proceeds over $6 billion and MBS proceeds over $4 billion to start. For example, if $20 billion of treasuries mature and $20 billion of MBS pay down, the Fed will reinvest $14 billion of Treasuries and $16 billion of MBS. This has the effect of decreasing total reinvestment by $10 billion a month. The plan is to increase these caps very gradually.

The Fed’s QE program is probably one of the most significant policies executed by either our government or an institution such as the Fed that is overseen by the government (somewhat at least) in decades. However, for much of the financial world, the policy is what Winston Churchill once called the Soviet Union: “A riddle wrapped in a mystery inside an enigma.” The two main questions most people have are how did the Fed create money and when they wind it down, how do they make the money go away?

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Converting to a Peacetime Federal Reserve

As speculation heats up over who President Trump will nominate as the next chairperson of the Federal Reserve (Fed), it is a good time to start thinking about a Fed that operates in a healthy economic environment and stable financial system. I think a historical analogy to use for the Fed converting back to a more conventional monetary policy is when the U.S.A. converted back to a “peacetime” economy following World War II.

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The Great Trump Reflation Trade Back?

I am going to say, “No, the reflation trade is not back, at least as it relates to interest rate duration.” I like rate duration, and I think a tremendous amount of domestic and foreign real money accounts like it too at current levels. Let’s use the current yield of the 7-year U.S. Treasury note at 2.17% as a marker. I believe the 7-year Treasury will be below 2% by the end of October.

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