I Still Hate Bonds. But the Math Is Better.

Bonds were supposed to help you sleep at night. Since Covid, it’s felt more like a six-year bender.

Fair enough. That’s what you get after a forty-year bull market.

But the bond beatings have led to a minor miracle: a reasonable yield.

Don’t get me wrong, I still hate long-term bonds.

But if you want to take some risk off the table (who could blame you), the current asymmetric return profile of 5-10 year US treasuries isn’t awful.

Say you bought the 10-year at 5.2%. Here is your return profile over the next year for a one-percentage-point increase or decrease in yield.

7.4% price appreciation + 5.2% interest….bada bing, bada boom = 12.6% return

Higher income does a lot of heavy lifting to improve the risk / return profile, which is why we love cash flow investments.

In finance geek speak: these bonds have positive convexity….aka the returns are “skewed” to the upside… aka they’re a decent short-term bet.

Of course, rates could spike higher. The “economists” at The Economist seem to think they might.

But, as always, ignore any and all interest rate predictions (because where are all the economists’ yachts?!).

Regardless, I’m just glad I don’t work at the Fed or the Treasury. These are impossible jobs.

The Fed is trying to dampen inflation again but another 25 bps rate increase isn’t going to solve the Oil / Energy problem or stop the Hyperscalers from buying more compute. They’re in an AI arms race, interest rates be damned.

Then there’s Treasury Secretary Bessent, who is under increasing levels of stress trying to tame the long end of the curve (he really needs lower mortgage rates).

His current plan is to issue more short-term debt and reduce the supply of long-term bonds to bring 10-30 year rates lower.

Seems a bit thirsty to me but we’ll see.

Part of the problem is the new competition for US Treasuries. Giant tech firms are issuing record levels of investment-grade debt to build data centers. The typical buyers of this debt are also some of the largest US bond buyers. These tech companies can’t print their own currency, but they’re also not ~$40 trillion in debt.

In other words, buyers aren’t demanding much extra yield to lend to these companies instead of Uncle Sam.

So short of an unlikely Fed pivot / rebirth of quantitative easing (aka buying our own bonds via the magic money printer), rates might not be going lower until:

A) Lower oil prices via a final resolution in Iran, and/or…

B) a major hiccup with the frontier AI models that slows the CapEx spend.

Nope.

The 60 stock / 40 bond portfolio used to be a hell of a deal.

Buy stocks. Buy bonds. Rebalance. Play golf.

For decades stocks provided growth, and bonds softened the blow when the market was tanking. It was a temporary gift from the Gods: portfolio management on cruise control.

The entire wealth management industry was built on this portfolio. It’s dead simple and highly profitable for them to manage, which is why they try to stuff everybody into the same basic portfolio.

With Treasuries yielding around 5%, the bond half of that vanilla portfolio finally has something going for it.

But better bond math doesn’t mean you put the whole portfolio back on 60/40 autopilot.

I’m not recommending anybody move heavily into long-term bonds.

I know I’m harping on inflation here but it’s for good reason. The Government is actually saying the quiet part out loud…that we can inflate our way out of the debt problem.

Inflation pushes bond values lower and then you get paid back with cheaper dollars.

Fantastic. Thanks.

These are all valid concerns. But If I’m being honest, I mostly don’t want to own long bonds because they’re BORING.

A fixed coupon for decades?

What a snoozefest. I’m boring myself just writing about bonds.

I would much rather own a basket of dividend-paying stocks and private income investments with the potential to:

At Evergreen, we think of three-month to two-year Treasuries as part of our cash bucket.

They’re there to cover expenses, handle surprises and provide a war chest for new opportunities. We don’t want to risk principal chasing an extra quarter point on cash.

For long-term capital, we’d rather own a piece of a great business that makes life miserable for its competitors and more profitable for its owners.

Back great managers and own productive assets we can pass down to the kids while collecting growing income along the way.

We have higher ambitions for our capital. Life’s too short for bonds.

Brad Johnson
Evergreen Capital