**[investwise]** As Equities Collapse, Debt Would Come With A Heavy Price

 

India: Fore-seeing A Black Friday   The dot-com bubble of the late 1990s. The housing bubble of the mid-2000s. They both wreaked massive havoc on investor portfolios. Trillions were lost ... both here and abroad.   Now, a NEW massive bubble is starting to burst. Now, a grave new threat is staring you in the face. And now, I believe those who ignore our warnings will once again be sorry. That bubble? The Treasury bond market!   This is no small backwoods corner of the financial world. Quite the contrary, the bond market is enormous. As of year-end 2009, there were $34.7 trillion of U.S. government, corporate, municipal, and other bonds outstanding. By comparison, the entire market capitalization of the broad Wilshire 5000 Total Market Index for stocks is just $13.9 trillion.   Translation: The U.S. bond market is two-and-a-half-times the size of the U.S. stock market! Among the categories of bonds outstanding, the U.S. has $2.8 trillion of municipal securities and $2.4 trillion of bonds backed by credit cards, auto loans and similar assets.   But the biggest sector of the bond market is, by far, U.S. Treasury securities. Marketable Treasury bills, notes, and bonds outstanding (which excludes those held in certain government trust funds and accounts, as well as those at the Federal Reserve) totaled $7.6 trillion   Each and every day, Washington is sowing the seeds of our nation's NEXT financial disaster ... and one of the biggest threats to your wealth that's looming in 2010-2011 — a crash in the U.S. bond market. And, since exploding long-term interest rates are simply the mirror image of crashing bond prices, the interest rate explosion is equally inevitable.   The Treasury Department and Federal Reserve are driving us inexorably in that direction with every inflation-fueling promise of free money ... every budget-busting bailout ... and every multi-billion dollar bond auction. Our foreign creditors are growing more disgusted, and the day of reckoning is rapidly approaching.   Yes, investors may SAY they see higher interest rates ahead. But their ACTIONS tell us they're mostly oblivious to the dangers. Most seem to think bonds are bulletproof — a much safer alternative to equities.   Unfortunately, the cold, hard truth is that bonds can sometimes plunge in value just as much as stocks. And that's not just true for high-yield, or "junk," bonds. It's also the case with medium- and long-term Treasuries! Consider these three historical examples: Between June 1979 and February 1980, the price of 30-year Treasury bonds fell from about 92 to 62. That's a decline of almost 30 points. In other words, long-term Treasuries lost almost one-third of their value in just eight months! Bond yields, which always rise when bond prices fall, shot up from 8.9 percent to 12.6 percent. Or consider the bond market collapse from September 1993 to November 1994. Bonds tanked from around 122 to 96. Total loss? More than 21 percent in just over a year. Rates surged from 5.9 percent to 8.13 percent. And if you think all that's ancient history, look at the price collapse that began much more recently. Treasury bonds plunged 30 points between December 2008 and June 2009. Interest rates almost DOUBLED — from 2.5 percent to 4.8 percent. And those declines could be child's play compared to the bond market plunge I see coming very soon.   The Threat Is Here; The Time to Act Is Now   All this leaves you with two choices:   1) You can ignore the warning signs just as they are doing in Washington. You can assume our nation's credit card will never be declined. You can just go on hoping for the best, while NOT preparing for the worst.   2) Or you can act now, with diligence and foresight, to avoid this disaster in the making. You can build a protective wall around your portfolio. And you can go on the offense, turning this looming disaster into one of the greatest profit opportunities of a generation.   My opinion? If you're not paying attention to this new phase of the debt crisis, you're making a grave error. And if you're not taking swift action to protect yourself, you're taking your financial life in your hands.   In this report, I will not only show you why the Great Interest Rate Explosion of 2010-2011 is going to get worse, why the Federal Reserve is powerless to stop it, and how it will impact investors and the capital markets overall but ... let's zero in on ...   How High Long-Term Interest Rates Might Go   I don't expect an exact replay of the disastrous bond bear market in the early 1980s. But I can't rule it out, either. I foresee three possible scenarios, all of which are bad for bondholders ...   SCENARIO #1: If interest rates simply return to pre-crisis levels (circa 2001), I calculate that the yield of the current 30-year Treasury bond could rise to the 5 2/3-6 percent range. Assuming 5.86 percent, that would mean a price decline of 16.7 percent from today's levels.   What might provoke this kind of move? The forces outlined above. But I don't believe we'll stop there ...   SCENARIO #2: In a more likely scenario, I see bond yields breaking through a key resistance level at 4.81 percent and surging to a target range of roughly 7¼-7½ percent. Assuming 7.36 percent for 30-year T-bond yields, we'd see a bond price decline of about 32.3 percent.   The same forces above would help launch this kind of move. Then it would gather steam as large foreign bondholders like Japan and China joined in the selling. Add in a major rise in U.S. sovereign debt fears, and it'd be a recipe for disaster.   SCENARIO #3: This scenario is possible but would require one more major element that I am not assuming in Scenarios #1 and #2 — the return of double-digit inflation. I am not counting on this additional boost to interest rates and nor should you.   But if it happens, there's virtually no limit to how high interest rates could soar. With CPI inflation of, say 12 percent or more, the price of the 30-year Treasury bond could be decimated, sending its yield soaring to 14 percent or even 15 percent.   Fortunately, you don't have to sit idly by while your fixed income portfolio is destroyed. You can take immediate action to avoid the carnage.   You can sell when, say, interest rates on 30-year bonds are 5 percent ... keep that money in cash and sidestep the price decline ... then swoop in and buy NEW bonds yielding 7 percent, 8 percent, or more!   My advice? If the average maturity of your ETF, mutual fund, or individual bond is greater than about two years, don't wait around — sell. Fortunately these days, with nearly all bond funds and most bonds, you can sell at the market, with no hesitation. However, with some thinly traded corporate or municipal bonds, you may need to give your broker some leeway — to work your order at a more favorable price. Either way, get out as soon as you can! Eventual Consequences of Rising Long-Term Interest Rates   For now and the intermediate-term future, the primary consequence of rising rates will be falling bond prices. Rates haven't risen far enough, fast enough to get the stock market's attention. The improvement in the global economy is also offsetting the impact of higher financing costs.   But later in the cycle, rising rates will matter. They will be pure poison for: The nation's insurance companies, which are loaded with long-term corporate and government bonds. The nation's banks, which are counting on low interest rates to raise funds for close to nothing. The nation's utilities, which must continually borrow huge amounts of long-term money to finance their massive investments in power plants and facilities. The nation's home builders, which are relying on cheap financing and Uncle Sam's largesse to keep buyers coming in their front doors. The nation's high-yielding REITs, which directly compete with bonds for fixed-income money. If yields on less-risky Treasuries rise, the value of Real Estate Investment Trusts will fall. Financing costs for commercial real estate projects will also climb.   Plus, interest rates are major factors in the ups and downs of other markets as well. Foreign countries where interest rates are rising sooner and faster than in the U.S. can enjoy a major boost to the value of their CURRENCIES. Inflation and inflation fears, which almost invariably drive interest rates higher, also drive up the value of COMMODITIES. Virtually every nation, market and sector is impacted by interest rates — sometimes positively, sometimes negatively. So knowing when and how interest rates will move gives you a MAJOR strategic advantage with almost every investment on the planet.   Don't Forget the Impact on Your Personal Finances!   You can't forget the impact of rising long-term interest rates on your personal finances, either. For starters, long-term mortgage rates tend to track long-term Treasury yields. If yields rise on 10-year and 30-year Treasury notes and bonds, they'll also climb on 30-year fixed-rate mortgages.   For most of 2009 and early 2010, 30-year mortgage rates fluctuated on either side of 5.25 percent. I expect them to head to the mid-to-high-6 percent area as a result of the bond market crash.   Rates on longer-term corporate loans, car loans, and fixed-rate home equity loans also tend to track longer-term Treasury yields. So you can expect those kinds of loans to cost more as Treasury-bond rates explode higher.   Variable rate home equity lines of credit, shorter-term business loans, and credit cards are not directly impacted by the rise in long-term rates. That's because they usually track the London Interbank Offered Rate (LIBOR) or the prime rate; and these closely follow the very short-term federal funds rate controlled by the Federal Reserve.   But as time passes, the Fed will be forced to "follow" the bond market. It won't be able to keep the fed funds rate pegged near zero percent. It will have to raise rates — whether it wants to or not — in order to show it's trying to tamp down inflation and to reassure fleeing bond investors that it's not going to let the value of their money collapse. When that happens, rates on these other kinds of loans will rise.   By fixing up your fixed income portfolio AND your personal finances — you will be prepared for the world that's coming. A world where cheap, easy money is a thing of the past. A world dominated by The Great Interest Rate Explosion of 2010-2011. Safe Harbor Statement: Some forward looking statements on projections, estimates, expectations & outlook are included to enable a better comprehension of the Company prospects. Actual results may, however, differ materially from those stated on account of factors such as changes in government regulations, tax regimes, economic developments within India and the countries within which the Company conducts its business, exchange rate and interest rate movements, impact of competing products and their pricing, product demand and supply constraints.   Nothing in this article is, or should be construed as, investment advice.

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