Bond Mania Could Lead to Bust, Citigroup Strategist Warns

In 2009, mutual funds netted a total of $377 billion, with $357 billion, or 95% of that going to bond funds. Outflows from U.S. stock funds were $25.7 billion.

With earnings off long-term government issues so low, investors are likely to continue to march into high-yield, long bonds, warns Tobias Levkovich, chief U.S. strategist at Citigroup Capital Markets. And that, in essence, could create the same kind of dot-com mania that led to the market crash in 2000.

“Since earnings are discounted off long-term government cost of money, higher bond yields in the future are likely to have meaningful repercussions for stock prices,” Levkovich wrote in a recent client note. “And thus, equity investors need to be aware and somewhat concerned about the extent of the rush into bond funds. Should investors sense that losses will grow as existing portfolios’ yields rise, flows could reverse and further exacerbate a rising yield dynamic.”

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