Saturday, October 10, 2009

Chasing Yield, Not Risk

Low interest rates are pushing individual and professional investors into higher-risk assets in the search for yield. This has been happening for a while, as mutual fund inflows into municipal bond funds have topped 1 billion dollars for 11 consecutive weeks. This has pushed yields down over the past six months (chart above; props to Bloomberg).

Interestingly, investors can only be pushed so far along the risk continuum: as mutual fund assets for bond funds have increased, those for stocks have declined--even as the stock market has risen. That is hardly the psychology of a bubble in the making.

It's only after investors shun fixed income and pursue a bull market in stocks that I suspect we'll be ready to set up for a fresh bear. That might not happen until the Fed is in the mode of raising rates, which in turn might not happen until inflation replaces unemployment as the dominant headline. If that's the case, the bull could have further to run.