politics

What bond rally says about Obama's next four years

November 7, 2012: 11:52 AM ET

Low interest rates and a slow recovery are here to stay.

obama-presidential-debateFORTUNE - If Wall Street hates the fact that President Obama will get four more years in the White House, someone forgot to tell the bond market.

The yield on 10-year Treasuries fell to 1.64% from 1.75%. Bond prices, which move in the opposite direction of yields, were up. That's a big one-day move for the bond market, though Treasury prices are still well off their highs of the summer when yields fell all  the way to 1.39%.

In some sense the bond market is a better gauge of whether Wall Street thinks Obama's policies will be good for the economy. The problem with bonds is that up doesn't always mean up.

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It's true that at least in part Treasury bonds are rallying because some think the economy is more at risk of slipping back into recession under Obama than it would be if Mitt Romney had been elected. Recessions typically lead to lower interest rates, and higher bond prices.

Much of that thinking has to do with the fiscal cliff, the trillions of dollars of tax increases and spending cuts that are set to begin January 1st unless a deal is struck in Washington. Obama might be more likely to push us over the cliff, because he has said he will veto any deal that doesn't include tax increases for the rich, something the Republicans have sworn not to do. "The bond market feels better for itself," says Kevin Giddis, who heads the bond unit at Raymond James. "But it's probably for the wrong reason."

But what is also true is that the election, again in part, and how the bond market is reacting to the Obama win is a huge thumbs up for Federal Reserve Chairman Ben Bernanke. Indeed, the need to remove Bernanke oddly became a Republican primary talking point. Obama's re-election means Bernanke stays until the end of his term in 2014 and that his policies to stimulate the economy through low interest rates will probably continue even after that.

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Some have argued that the Fed's quantitative easing, the policy of buying bonds to lower interest rates, will ultimately fail. They say all that bond buying will cause massive inflation. The result would be higher interest rates, a plunging dollar and a massive loss of wealth that sets the U.S. economy back for generations.

The Treasury rally suggests none of that will happen. Bernanke's policies may not produce a better economy overnight, but they're not likely to turn us into Greece either.

There are going to be people who don't like bonds. That was true before the election and will continue to be true after. And there are two scenarios that are bad for bonds. A new recession could cause the national debt to balloon even more, and that eventually could pop the bond market. Or two, the economy quickly recovers and that leads to higher interest rates, and lower bond prices.

What the market is saying is that Obama's policies are likely to head us down the middle path - a continued slow recovery. That's not as good as we want, but it's not bad news either.

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