Robert Shiller on government bonds

Yale University economist Robert J. Shiller asks whether the low yields (high prices) of long-term government bonds should worry investors. His answer? No, because bond-market crashes in the past have been rare and relatively mild.

The prices of long-term government bonds have been running very high in recent years (that is, their yields have been very low). ….

I have been thinking about the bond market for a long time. In fact, the long-term bond market was the subject of my 1972 PhD dissertation and my first-ever academic publication the following year, co-authored with my academic adviser, Franco Modigliani. Our work with data for the years 1952-1971 showed …. [w]hen either inflation or short-term real interest rates went up, long-term rates rose. When either fell, so did long-term rates. ….

[T]he explanation that we developed so long ago still fits well enough to encourage the belief that we will not see a crash in the bond market unless central banks tighten monetary policy very sharply (by hiking short-term interest rates) or there is a major spike in inflation.

Bond-market crashes have actually been relatively rare and mild. In the US, the biggest one-year drop in the Global Financial Data extension of Moody’s monthly total return index for 30-year corporate bonds (going back to 1857) was 12.5% in the 12 months ending in February 1980. Compare that to the stock market: According to the GFD monthly S&P 500 total return index, an annual loss of 67.8% occurred in the year ending in May 1932, during the Great Depression, and one-year losses have exceeded 12.5% in 23 separate episodes since 1900. ….

It is true that extraordinarily low long-term bond yields put us outside the range of historical experience. But so would a scenario in which a sudden bond-market crash drags down prices of stocks and housing. When an event has never occurred, it cannot be predicted with any semblance of confidence.

Robert J. Shiller, “How Scary Is the Bond Market?“, Project Syndicate, 16 March 2015.

I would add that, while nominal bond yields are low, so is expected inflation. Real yields (nominal yields less inflation) are not so low by historical standards. I warn TdJ readers though, that this is not my field of expertise, and I have not examined the historical data.

Robert Shiller (born 1946) is a 2013 Nobel laureate in economics and co-creator of the Case-Shiller Index of US house prices. He is author of Irrational Exhuberance (Princeton University Press, 3rd edition, 2015) and Finance and the Good Society (Princeton University Press, 2012)


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