Wall St. Sucks at Predicting Interest Rates, and so does Everyone Else

Raise your hand if you’ve been waiting, and waiting, and waiting for interest rates to finally rise.  No way rates could stay at zero forever we all said in 2010, and again in ’11, and ’12… and then finally in ’13 – a light at the end of the tunnel. Rates actually went up as bonds lost –4.54% ($BND).  Following that, 2014 was surely the year interest rates were going to start rising in earnest, fueled by more tapering and perhaps turning into the mother of all trend following trades.

Except… nobody remembered to tell the bond market what it was supposed to do – as rates fell in 2014 with bonds gaining ($BND +5.93%), proving us all wrong once again…

 

30 year bonds(Disclaimer: Past performance is not necessarily indicative of future results)
Chart Courtesy: Finviz 

Which brings us to lovely 2015, the year of the Sheep, where bond yields have once again made a brief run higher, moving from a low of 1.68% on the US 10 Yr to a high of 2.28% {Past performance is not necessarily indicative of future results}.  Now, your elders may scoff at 60 basis points move, but for those of us who have lived at the zero bound for the past 5+ years,  60bp is nothing to shake your head at. And it wasn’t the kindest of moves to those who systematically trade such markets – with managed futures and global macro down in February and April as the months-long up trend (in prices, down trend in rates) reversed course.

Which all leads to the $1 million $1 Trillion question – is this the move higher in rates we’ve all been waiting for?  Or are we just sheep being led to the proverbial slaughter once again believing two months of rising rates means many more months of rising rates ahead.

We’re really bad at this question

Before proceeding, it’s worth noting that, as a society, we’re quite bad at forecasting where rates are going. Here’s the US government’s track record:

Overestimating Interest Rates

(Disclaimer: Past performance is not necessarily indicative of future results)
Chart Courtesy: The New York Times

And here’s Wall Street’s track record….

Wall St Wrong about Interest Rates(Disclaimer: Past performance is not necessarily indicative of future results)
Chart Courtesy: Business Insider

Those dotted lines are where they forecast interest rates to go. The solid lines where they actually went, showing that nearly everyone involved (Bill Gross and Warren Buffet included) has consistently guessed on the high side when forecasting where interest rates are going. Now, we’ve covered the Folly of Prediction before, with this great nugget from Freakonomics:

It’s impossible to predict the future, but humans can’t help themselves. From the economy to the presidency to the Super Bowl, educated and intelligent people promise insight and repeatedly fail by wide margins.

Which leads us to one of our favorite bloggers, JC Parets, who calls this 35 year low yield run one of most historic trends in American history, and questions everyone’s assumption that this run will go quietly without a fight.

“Why does it just have to reverse overnight? Historically, going back over a 200 year bond market, interest rates tend to bottom out through a process that takes somewhere between 10-20 years depending on which bottom in rates we are referencing. Look back at history; it’s there for us to learn. Interest rates hit new lows just a few years ago (on the 10year), so we should just now assume that we are about to see the first v-bottom in rates in American history? Why because the short bald guy on the TV says so? Or the 10,000 articles that all repeat the same thing?”

Couldn’t have said it better ourselves… although we’ve argued that just because it’s never happened doesn’t mean it won’t happen. There’s all sorts of reasons this time could be different (how close we are to 0% rates, the historic length of time we’ve been at near zero, the historical stimulus, bond buying twist operations, and the rest…). But we sure do believe it will happen and keep getting the feeling from managers and investors alike that this time feels a little bit different. This move in rates, while not as big as the move in 2013, has the taste of a real precursor to something more significant. Now, that’s likely all due to the backdrop of the Fed finally playing their part and doing their dance saying they’re interested in raising rates again, sometime, someday.  Or maybe it’s because we keep getting pitched on ‘solutions’ for rising rates.  You can’t help but see this little advertisement every time you log out of your Chase account:

Chase Rising Interest Rates

 

Are you ready for Rising Rates?

Now, if you actually read the Chase Private Client group paper, it’s more about warning you that the bond portfolio they have you in is going to lose money and the loan you took against your stock portfolio is going to start costing you more every month. It’s more of a public service announcement on how rising rates will affect you, not really what you should be looking at for when rates rise to make sure they don’t affect you negatively.  But the question is a good one that bears repeating… are you ready for rising rates?

Or, as we read the question – does your portfolio contain something that doesn’t react negatively to rising interest rates?  There’s a little asset class we know of that tends to like trends in interest rates (up or down) just fine, thank you.  We’re talking systematic managed futures and global macro programs, who have been fueled by the near perma-trend that was falling interest rates for years. And here’s the kicker… they can’t be wrong in their forecast, because they don’t do forecasting. They bracket a market like bonds, not caring whether they are going to trend higher or lower… and upon a breakout move above or below said bracket, they participate. Sure, this results in a lot of false breakouts, but it helps make sure you’re in the big one when it does come.

So whether this is really the start of the real move, or just another head fake, make sure you’re not just looking at how you will take a hit when rates rise, but also what you can do about it…

PS – Stuck in the airport, or at the in-laws; dig into our past takes on bond prices/rates below:

About those Higher Interest Rates (Lower Bond Prices)

Will a Negative Roll Yield Shut Down Managed Futures Bond Tailwind?

Meanwhile, in Bonds…

Bridgewater Growing Bearish on Bonds

Bonds Winding Up?

Looking for the Top in Bonds, Part XIV

Hedge Funds “Piling into Long Bonds

Bonds Fake Out Managed Futures Again…”

Why Managed Futures Love Bonds

Managed Futures not going anywhere until Bonds wake up…

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The performance data displayed herein is compiled from various sources, including BarclayHedge, and reports directly from the advisors. These performance figures should not be relied on independent of the individual advisor's disclosure document, which has important information regarding the method of calculation used, whether or not the performance includes proprietary results, and other important footnotes on the advisor's track record.

Benchmark index performance is for the constituents of that index only, and does not represent the entire universe of possible investments within that asset class. And further, that there can be limitations and biases to indices such as survivorship, self reporting, and instant history.

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Those investors who are qualified eligible persons as that term is defined by CFTC regulation 4.7 and interested in investing in a program exempt from having to provide a disclosure document and considered by the regulations to be sophisticated enough to understand the risks and be able to interpret the accuracy and completeness of any performance information on their own.

RCM receives a portion of the commodity brokerage commissions you pay in connection with your futures trading and/or a portion of the interest income (if any) earned on an account's assets. The listed manager may also pay RCM a portion of the fees they receive from accounts introduced to them by RCM.

See the full terms of use and risk disclaimer here.

Disclaimer
The performance data displayed herein is compiled from various sources, including BarclayHedge, and reports directly from the advisors. These performance figures should not be relied on independent of the individual advisor's disclosure document, which has important information regarding the method of calculation used, whether or not the performance includes proprietary results, and other important footnotes on the advisor's track record.

Benchmark index performance is for the constituents of that index only, and does not represent the entire universe of possible investments within that asset class. And further, that there can be limitations and biases to indices such as survivorship, self reporting, and instant history.

Managed futures accounts can subject to substantial charges for management and advisory fees. The numbers within this website include all such fees, but it may be necessary for those accounts that are subject to these charges to make substantial trading profits in the future to avoid depletion or exhaustion of their assets.

Investors interested in investing with a managed futures program (excepting those programs which are offered exclusively to qualified eligible persons as that term is defined by CFTC regulation 4.7) will be required to receive and sign off on a disclosure document in compliance with certain CFT rules The disclosure documents contains a complete description of the principal risk factors and each fee to be charged to your account by the CTA, as well as the composite performance of accounts under the CTA's management over at least the most recent five years. Investor interested in investing in any of the programs on this website are urged to carefully read these disclosure documents, including, but not limited to the performance information, before investing in any such programs.

Those investors who are qualified eligible persons as that term is defined by CFTC regulation 4.7 and interested in investing in a program exempt from having to provide a disclosure document and considered by the regulations to be sophisticated enough to understand the risks and be able to interpret the accuracy and completeness of any performance information on their own.

RCM receives a portion of the commodity brokerage commissions you pay in connection with your futures trading and/or a portion of the interest income (if any) earned on an account's assets. The listed manager may also pay RCM a portion of the fees they receive from accounts introduced to them by RCM.

See the full terms of use and risk disclaimer here.

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