Buy Treasurys, as Bernanke's Tapering Is All Talk
In "Godfather III," the Don of the mobster family, Michael Corleone, famously said, "Just when I thought I was out, they pull me back in."
You may hear those same words coming out of the office of Federal Reserve Chairman Ben Bernanke later this year when he is forced to backtrack on his plans to reduce bond buying as the economy falters.
Despite the carnage last week, the best opportunity in markets may be to buy U.S. Treasurys as inflation stays anemic and the economy continues to limp along, according to the two most-notable bond investors in the world.
"The one place that you're likely to make money in the next several weeks, maybe months, is actually—believe it or not—the most hated asset class on the planet, long-term government bonds," said DoubLine's Jeff Gundlach, in an interview just before the Fed announcement last Thursday, when he accurately predicted Bernanke would signal a tapering of bond purchases this year.
"When economic data gets weaker—which it probably will at some point—then they will be talking about bond purchases again," said Gundlach, who manages more than $55 billion. "There's no sign of inflation anywhere."
The other bond king, Bill Gross, echoed the thoughts of Gundlach, just after the Fed's statement was released last week.
"I think tapering is delayed," said the founder of Pimco, which manages $2 trillion. "It's time to buy government bonds for short-term capital appreciation."
The 10-year yield rocketed higher to a 2-year high of nearly 2.5 percent last week, slamming prices of government bonds, after Bernanke said that the Fed will begin reducing QE3 if the economy stays on track. The Fed also moved its forecast for a 6.5 percent unemployment rate—its benchmark for raising rates from zero—up to 2014 instead of 2015.
Still, Gross sees the 10-year yield ending below 2 percent by the end of the year.
"We're in a low growth, low inflation environment," said Brian Kelly, who runs Brian Kelly Capital and www.GoAnywhereInvesting.com. "There will be a lot of selling from foreign markets and a lot of that money coming out will come into U.S. markets, specifically bonds."
Kelly is playing along with the two bond kings through the purchase of the iShares 20-Year Treasury Bond ETF (TLT) as it is an easy way for the regular investor to get exposure to the long-term Treasury market.
This week, the second revision of the gross domestic product report will show the economy expanded at a 2.4 percent pace in the first quarter. Last week, we learned that inflation—as measured by the Consumer Price Index—increased by just 0.1 percent in May.
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The big number will come next Friday when the unemployment rate and non-farm payrolls for June are released. Last month, the unemployment rate actually ticked slightly higher to 7.6 percent and payrolls grew by only 175,000.
"The hope that's priced into the market is that we are going to replace artificial growth with real growth," said Mohamed El-Erian, Pimco CEO, in an interview in early June.
These heavy hitters are betting we're not.
—By CNBC's John Melloy. Follow him on Twitter