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TLT was a great trade - but now it is only for the brain dead and wilful blind.

According to betting odds, Biden and Trump will likely face off against each other in the 2024 Presidential Election, with Biden having the edge. What is odd, is both Biden and Trump are known quantities. Neither is going to push deflationary policies. And yet investors have been buying TLT (30 year Treasury ETF) in huge quantities.

Perhaps investors think its like the 1990s, when the bond market can intimidate politicians into deflationary policies? Well recent history is pointing to a sea change here too. For those of you may have forgotten (many in the UK have been actively trying), Liz Truss was the political successor to Boris Johnson. Her political plan essentially involved huge unfunded tax cuts. Her mini-budget had two market consequences. The Great (sic) British Pound (GBP) collapsed, and long dated bond yields blew out. Truss was soon replaced with Rishi Sunak, and we have seen GBP rally back, classic market forcing policy change style trade, like seen in 1990s during Bill Clintons time as president.

However even though we have a surging GBP, long dated gilts are back at lows. For me this reflects a new political reality.

The reality is that no government is going to cut spending - so you need higher interest rates to control inflation, and tax cuts will only add to inflation. The austerity that we saw from 2009 until 2020 was the true outlier (and probably the catalyst for the Brexit vote). Rishi Sunak is trying to move back to austerity policy, and is being given short odds of remaining Prime Minister beyond the next election. That is politics is all about spending. Central Banks will need to keep interest rates high for the foreseeable future, and bond markets are reflecting that.

The US Federal Government attitude to spending looks very similar to the UK.

What makes TLT such a bad bet for me is that you are saying that you think either a second Biden or second Trump administration is going to be totally different, and this will cause yields to fall. Rishi Sunak is totally different to Liz Truss, and yet yields have not fallen. And for me it would be quite easy to see 30 year treasury yields rise to 6%, especially if Trump introduces unfunded tax cuts, which I see as likely.

Why are people so bullish on TLT? In most peoples investment careers government spending has been declining, and budgets aimed to be balanced. When the Fed raised rates, and bond curves inverted, you could be sure of a recession as credit flow stopped. If you go back to the late 1970s, when governments were still spending, you needed Fed Fund rates fully 8% above the 30 year bond yield to get a recession.

Treasury investor’s mistake is believing in the power of central banks. The real power lies with governments, who from 1980 to 2020 or so believed that smaller was better, which in essence passed power to central banks. This is no longer true. Much tighter monetary policy is needed to offset government spending. So TLT holder - are you brain dead, or just wilfully blind?

Capital Flows and Asset Markets
Russell Clark