Bond proxies

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Bond proxies are equities that have beta to different parts of the yield curve. An obvious example is utilities. As many of them pay sizable dividends, its not uncommon to see them trade up and down as a basket with the 2y. As the bond goes up in value (yields lower) the basket of utilities does the same. As the bond decreases in value as yields rise, there is some weakness in the utility sector. It obviously doesn’t move in lock step, but there is 20 - 40% beta.

Its not just utilities, staples, telecom (specifically AT&T and Verizon), large portions of the banking sector, and certain health care names can all be called bond proxies, as their high dividends and stable cash flows means the market views them as defensive in times of instability. In time of rough seas, a trader might reach for shares of AT&T instead of bonds, viewing the liquidity of the equity more valuable than the cash principal risk.

In today’s piece we’re going to talk about a few names that would benefit from lower yields, as bond proxies, but aren’t defensives. The lenders. Short term interest free loan lending, to private loans, to mortgages, to all of the above. These names would love a naturally lowering yield curve. One that isn’t cliff diving from a recession but is fading because of disinflation.

As readers might remember, I’ve said since early January that I expect either an equity market high in March after a February pull back. While we could still pull back more into the end of the month, I think we rally into mid March before throwing up some in April. That’s the broad equity market. For bonds I think they get more attractive by the day, and I think the next eight weeks are the perfect time to build out a bond proxy basket of defensives and lenders. Stocks that will go up when bonds rise in value as yields fall. Outperforming the indexes (though in fairness these might go down just *less* if there’s a huge broad sell off and the lenders will get smashed hard if we’re falling because of a recession).

The clearest sign that its time to buy bonds is if the market starts talking about rate hikes again. I’ll be happy to go down with the ship on this take, but I’m going to fade any rate hike talk this cycle. The market whispering about it would tell me its time to put on the bonds and bond proxies piece. With that, let’s jump in.