MONEY ROTATING OUT OF TREASURY BONDS AND THE DOLLAR HAS MOVED INTO STOCKS AND COMMODITIES -- THAT'S A SIGN OF GROWING OPTIMISM -- DON'T ABANDON ALL BOND CATEGORIES -- OUTSIDE OF TREASURIES, MOST FIXED INCOME CATEGORIES ARE RISING

ROTATION INTO RISKIER ASSETS IS A GOOD SIGN... Although it's no surprise to read that some asset class rotations have been going on all spring, it's still helpful to see what's happening graphically. And to try to understand why it's happening. From last summer to this March, stocks and commodities had been falling due to fears of a global economic contraction. Money moved into safe haven assets like the U.S. Dollar and Treasury bonds. Those are the two lines in Chart l. Treasury bond prices (red line) peaked at the start of the year and have been dropping since then. So has the U.S. Dollar (green line) which peaked in early March. Those two safe havens have become the weakest asset classes during the first half of 2009. The two beneficiaries of the rotation toward riskier assets have been stocks (blue line) and commodities (black line). Both of those barometers of economic growth bottomed in early March and have been rising since then. The rationale is pretty simple. Bonds do better in a recession, while stocks do better coming out of a recession. The same is true of commodities. Commodities are also getting a big boost from the drop in the U.S. Dollar. So are foreign currencies and foreign stocks -- especially those tied to commodities. Treasury bond prices are also being hit by the government's huge borrowing costs and potentially higher inflationary expectations. That probably explains the sharp drop in the U.S. dollar and the recent upside spike in Treasury bond yields. What Chart 1 tells us is that investors are more optimistic about the global economic outlook and are embracing more risk. The explains the aggressive buying of emerging markets which are riskiest of global stocks. Investors aren't, however, abandoning all bonds. They're moving away from the defensive qualities of Treasury Bonds to riskier parts of the fixed income sector that should do better in a stronger economy.

Chart 1

DON'T ABANDON ALL BONDS... Back on April 25 and 28, I wrote a couple of Market Messages pointing out that not all bond prices were falling. In fact, outside of Treasuries, most bond categories were rising. An April 28 headline read: "Rotation out of Treasury Bonds into High Yield Corporate Bonds is a sign of confidence". The April 28 headline, "Some Bond Prices are Rising," showed buying in Investment Grade Corporate Bonds and Inflation Protected Treasury Securities (TIPS). My May 16 Message discussed the buildup of inflationary expectations and suggested that two of the best ways to deal with that was through precious metals and TIPS (and emerging markets tied to commodities). Before deciding to abandon all bonds in favor of stocks and commodities, take a look at the following bond charts. Chart 3 shows TIP iShares (TIP) approaching a new high for the year. Its 50-day average (blue line) has just exceeded its 200-day (red line) which is a bullish sign. TIPs are a bond hedge against rising inflation. Chart 4 shows the Investment Grade Corporate Bond ETF (LQD) nearing its January high. Its moving average lines are also in bullish alignment. Corporate bonds are a sort of hybrid between bonds and stocks. They do better in a stronger economic environment. Chart 5 shows the High Yield Corporate Bond ETF (HYG) challenging its January high. High yield bonds, however, carry greater risk than investment grade corporates. The reason I'm reshowing the three charts is to reassure you that you don't have to abandon the fixed income sector just because Treasury Bond prices are falling. Just rotate into stronger bond categories. The weak dollar is also giving a nice boost to foreign bonds, especially in emerging markets.

Chart 2

Chart 3

Chart 4