If I had to guess why, I'd say the bond markets don't really believe the U.S. economy is recovering strongly, or even that it's about to. But the fact that the stats can be shaded to suggest we're not sinking into recession either is probably good enough to keep stocks on the rise, if moderately so, and even with the dollar in a funk.

Without technical tools and charts, I've always considered the bonds too tough to forecast. Much of the time, they seem to defy logic, if not technical analysis. Fortunately, there are guys out there who can look at Treasurys from many angles without getting too confused. One of them is Levente Mady, who puts out a weekly bond analysis for Bob Hoye's Institutional Advisors. Like Rick's Picks, Levente has been correctly forecasting lower yields for months against the consensus. He has kindly consented to share with you his most recent outlook, which to my way of thinking gets things just about right. Levente remains bullish on both the short- and longer-term picture, and here's why:

"Let's take a step back for a minute or two, and have a look at what is driving bonds here. While the flavour of the month seems to be those darned central banks buying up every Treasury in sight, I believe that blaming low yields on [central bank] purchases alone is rather myopic. While I will be the first person to admit that those excessive purchases have contributed to altering the natural balance of Treasury bond yields, I believe that the first and foremost reason why yields are where they are is the artificial rates set in the short end by the Federal Reserve Bank. By lowering the overnight funds rate to 1%, the Fed has created massive amounts of excess liquidity that were looking to get parked somewhere.

"Bonds were not the only beneficiaries of the Fed action as you all probably well know. 'Risk' has pretty much been banished from segments such as stocks, junk bonds and housing in 2004. Last week's 10-year bond auction has also illustrated the limited impact CB's have on the longer end of the maturity spectrum. Indirect bidding on the 10-year note was less than 10% and the market did not implode as a result. Even with Fed Funds now at 2%, rates seem to be low enough to keep the liquidity party going a little longer. With stocks at 2 year highs and junk bond yields at all time lows, the Fed feels pretty confident that it can continue removing excess liquidity by staying on its path of 'measured rate hikes'.

"The reason why I still like bonds here is two-fold. In the short term it has to do with position squaring going into year-end; in the longer term it is based on the fact that in my opinion the market is overly optimistic on the economy going forward and has not discounted a substantial slowdown materializing sooner than later. It is truly scary how universal the expectations of higher bond yields continue to be out there. It really baffles me that even the 'deflationary Armageddon is almost upon us' crowd is looking for bond yields to rise sharply. [Note: Your editor sees real rates rising over time, due to falling asset values.] I thought perhaps deflation should help nominal bond yields decline, even if real yields rise sharply. I have been wrong before and I could be wrong again, but for the time being, I am sticking with my story."

Is it possible to trade the E-mini S&P using stop-losses of a point or less? Rick's Picks recommends two- and three-tick stops all the time in this vehicle. Come visit our archive to see how accurate day-in-advance forecasts can be. You can now get a free 24-hour pass to the site without having to provide credit card information, so check out our latest predictions

Rick Ackerman

December 15, 2004

Information and commentary contained herein comes from sources believed to be reliable, but this cannot be guaranteed. Past performance should not be construed as an indicator of future results, so let the buyer beware. Rick's Picks does not provide investment advice to individuals, nor act as an investment advisor, nor individually advocate the purchase or sale of any security or investment. From time to time, its editor may hold positions in issues referred to in this service, and he may alter or augment them at any time. Investments recommended herein should be made only after consulting with your investment advisor, and only after reviewing the prospectus or financial statements of the company. Rick's Picks reserves the right to use e-mail endorsements and/or profit claims from its subscribers for marketing purposes. All names will be kept anonymous and only subscribers' initials will be used unless express written permission has been granted to the contrary. All Contents © 2004, Rick Ackerman. All Rights Reserved. www.rickackerman.com