Even as most fixed-income experts continue to say bonds remain a risky bet, one well-known strategist, Steve Galbraith of Morgan Stanley, is suggesting this actually may be a good time to buy.
Based on hopes for better days from fixed income after a summer-long selloff, Galbraith is recommending a 5% asset shift from cash into bonds. His recommended allocation is now 65% stocks, 25% bonds and 10% cash.
"It is hard to ignore the sharp move in bonds since mid-June," said Galbraith in a research note, adding that July was the worst month for long-term Treasury bond returns in at least 75 years, with a total return of -9.8%. "Expected returns are clearly higher than they were two months ago."
The selling in Treasuries may very well be overdone -- July's move lowered the 10-year annualized return on long-term government bonds by more than a full percentage point, according to Galbraith -- but some bond analysts are not so sure that the pain is over.
"It is tough to pick the bottom, particularly at the end of the summer," said Mike Cloherty, a fixed-income strategist at Credit Suisse First Boston.
The 10-year note ended Tuesday trading yielding 4.25%, up 22/32 in price to 99 1/32.
David Rosenberg, chief economist at Merrill Lynch, says the two-month-old bear market in Treasuries is among the worst of all time, citing a 49% run-up in the 10-year yield. And, he notes, the eight bear markets of this magnitude, back to 1970, lasted an average of 16 months.
Moreover, with signs of an economic recovery, investors have begun to anticipate that the
will hike interest rates. Fed funds futures -- a proxy of monetary policy -- are now forecasting higher rates next year. In the meantime, yields are likely to go higher -- and prices lower.
"I see prices continuing to fall in many grades of securities in many segments of the bond market," said Tony Crescenzi, bond market strategist at Miller Tabak and a contributor to
. "In order to receive enough income to offset the risk of a price drop, investors would have to dibble at the lower end of the investment grade spectrum."
While Galbraith expects fixed income to do better than it did over the past two months, he is still recommending an underweight position, in part because of bonds' strong performance during the equity rout.
"Returns on long-term government bonds over the last 10 years are still running almost 50% above long-term averages," he said. "Given our reversion-to-the mean focus, we expect that bond returns will revert toward their mean just as equities reverted during the three-year bear market."
Still, in the end, Galbraith claims that he is always a seller of greed and a buyer of fear.
"Given there is meaningfully less of the former in Treasury prices today than a mere two months ago, we are reducing our underweight position in bonds," he said. "Although we still prefer stocks to bonds, expected returns in asset classes are converging again -- and rapidly."