In an interview with CNBC, Greenspan, famous for his use of the phrase “irrational exuberance,” said the markets are currently in a bubble when it comes to bonds. “Prices are too high” on bonds, Greenspan said on “Squawk on the Street,” a CNBC program. (See also: 11 Stocks That Outperform as Interest Rates Rise.)
As for the recent swings in equities, Greenspan said that as real long-term interest rates rise, stocks tend to fall, but that’s not likely what’s going on with the current market swings. "The last few weeks are responding to the good part of the tax cut," he said. According to CNBC, Greenspan was implying that any economic growth due to tax cuts could result in an increase in inflation. If inflation rises, that could result in the Federal Reserve moving to raise interest rates more than expected, which has weighed on stocks all of February. After setting records in trading in January, stocks have been in correction mode over concerns of an overheating economy.
Beware of Bonds?
Greenspan told CNBC that in the near term he is upbeat about the potential for growth thanks to tax reform, which lowered the corporate tax rate to 21% from 35% and gave U.S. companies a break when they bring money back from overseas. Over the longer haul, Greenspan said he is “rather dismal” because of the “gradual encroachment of entitlement spending on gross domestic savings." (See also: Stock Market May Plunge 25% as Yields Soar: Goldman Sachs.)
In terms of bonds, Greenspan isn’t the only high-profile market observer to warn about a bubble. CNBC pointed to Paul Tudor Jones, the hedge fund manager, who told Goldman Sachs that inflation will rise and that the 10-year Treasury yield will surge, while Bill Gross, the famed bond investor, recently said a bear market for bond prices has already started.
Warren Buffett told CNBC earlier in the week that investors with a long-term perspective should consider purchasing stocks instead of bonds. Meanwhile, in a recent Q&A blog post, Greg Davis, chief investment advisor at Vanguard, which is one of the world's largest fund companies, said that he expects the 10-year average annual return on bonds to be in the 2% to 3% range: "Lower than historical norms, but we're starting at a lower level of yield," he added. While Davis called bonds simply a series of coupon payments and maturity of the principal payment, he said that, when stocks are tanking, bonds provide a way to diversify and give investors the power to rebalance into equities when those assets become cheaper.