Enlightenment - A Herold & Lantern Investments Podcast
Enlightenment - A Herold & Lantern Investments Podcast
Everything Is Relative: A Fresh Look at Market Valuation
May 27, 2025 | Season 7 | Episode 20
Take a fascinating journey through market valuation that challenges conventional wisdom about wealth measurement. In this eye-opening episode, we explore how perceiving markets solely through dollar-denominated prices creates an illusion of stability, when deeper analysis reveals a more complex reality.
The real story emerges when we examine the Dow-to-gold ratio across a century of market history. From its peak of 18 during the 1929 market bubble to 41 during the dot-com frenzy to approximately 12 today, this perspective shows how relative wealth can dramatically shift despite seemingly stable nominal values. While the S&P 500 appears nearly flat year-to-date in dollar terms, a foreign investor would experience an 8.6% loss due to dollar weakness—a sobering reminder that currency matters.
We analyze healthcare stocks showing promising technical indicators after five years of significant underperformance, potentially setting up a 21% rebound based on historical patterns. We also examine IBM's surprising premium valuation compared to its historical discount and Google's existential challenge as younger users increasingly "ChatGPT it" rather than "Google it."
Looking toward future market leaders, we highlight companies with explosive growth potential: Aurora Innovation revolutionizing autonomous trucking, BYD dominating the Chinese EV market with breakthrough battery technology, and Tempus AI connecting with over 50% of US oncologists through its genomic sequencing business.
The bond market reveals perhaps the most profound shift, as Treasury yields now incorporate default risk—evident as credit default swap spreads approach levels comparable to Greece. Combined with diminishing Japanese investor interest and the relatively small size of the high-yield market compared to Treasury issuance, these dynamics create both challenges and opportunities.
Understanding relative valuation isn't just academic—it's essential for navigating today's complex investment landscape. Join us as we provide the perspective you need to see beyond nominal figures and grasp what's truly happening to your wealth.
** For informational and educational purposes only, not intended as investment advice. Views and opinions are subject to change without notice.
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And now introducing Mr Keith Lanton.
Keith Lanton:Good morning. Today is Tuesday, may 27th, yesterday, memorial Day, a moment of thought and prayer for those who served and died serving the United States of America, and this is the final week of May, fifth month of the year. We are waking up to the post-memorial day, to a equity market that looks like it's going to be moving higher. We're seeing some positive signs in the bond market. We're going to talk a lot this morning about the stock market, the bond market, how to think about valuation. This morning we're going to talk about Barron's. This morning we're going to take a look at some different stocks that they talked about, some large cap stocks like IBM and Google, as well as some stocks that they think could be the potential next IBMs or Googles of the world, obviously IBM and Google both dominating different market segments at different moments in time. We're going to talk about a few companies that perhaps could do that in the future with some smart investors think have a chance of doing that. We will talk about interest rates, as well as the bond market and the treasury market and what's taken place since the downgrade of US treasuries, which we woke up to last week, and we'll take a look back at last week just very briefly, to set the table and then talk about the financial markets and some different ways to think about the markets and investing, and hopefully this will help all of us become clearer thinkers and better investors going forward.
Keith Lanton:So last week we woke up, as I mentioned, to digesting the news which took place the previous Friday, which is that Moody's downgraded the US debt. Also we woke up to the fact that the House Committee of Republicans passed a budget bill. So last Monday we had a lot to digest and what we saw was the bond market didn't like that news. Long-dated treasury yields climbed to 5% and the dollar fell. So that was on concerns A about the creditworthiness of the US government, which was related to perhaps some of the potential additional spending that may have taken place to add to the deficit as a result of the bill that passed the House and still has to make its way through the Senate.
Keith Lanton:So Monday, after all that the bond market's selling off. But stocks kind of beat their way back to about even on Monday, edging up slightly. Then they fell on Tuesday, which ended a six-day win streak up slightly. Then they fell on Tuesday, which ended a six-day win streak Wednesday, which seems like a long time ago. The 20-year Treasury auction didn't go well. We saw long bond yields spike further. We saw the 10-year Treasury get up to 4.6%. Early Thursday morning the GOP passed the House bill. Long bonds sold off again and on Friday President Trump called for 50 percent tariffs on the European Union, 25 percent on smartphones made abroad Specifically he was targeting Apple phones, and stocks sold off on Friday and ended the week down about two and a5% across the board. And that sets the stage for where we are this morning, which is news that President Trump has extended his deadline to impose 50% tariffs on the European Union to July 9th, from July 1st, from June 9th. He was going to go on June 2nd, so he kicked it back a week. And the European Union, with some comments that they are going to work hard to focus on these trade negotiations and work swiftly, and equity markets reacting positively to that news this morning.
Keith Lanton:Year so far coming into today, despite all the gyrations up and down, we are looking at the S&P 500 down about three-tenths of one percent. So almost unchanged coming into today, despite all the news flow, all the calls that we've had, all the talk that we've had. Yet markets basically are where they started the year. But I'm going to ask you this question Are they where they started the year? And I'm going to tell you why I asked that question. And I asked that question because we have to think about markets and valuations based on relativity. Markets are priced in currency. In our case, our market let's call it the Dow, it could be the S&P 500, is trading around 41,600. And when we say it's trading in $41,600, we're talking about something that is denominated in dollars.
Keith Lanton:All things are relative. So let's talk about relativity and what that may mean and some quotes on relativity. So here's one from Albert Einstein. And when you think about things being relative, when you're quoting a nice girl this is from Einstein an hour seems like a second. When you sit on a red hot cinder, a second seems like an hour. That is relativity. You want to think about relativity in terms of our lives. Perhaps coming back to the office this morning, on a Tuesday morning after a three-day Memorial Day weekend, I know that Einstein's theory of relativity is correct, because every weekend goes by twice as fast as normal. Or in the financial world, let's talk about relativity. Wealth, like speed, is relative. You only feel truly rich when you compare yourselves to those with less and poor when you compare yourself to those with more.
Keith Lanton:So I mentioned relativity, I mentioned stock market. Dow Jones Industrial is 41,600, basically close to where it started the year Dow Jones Industrial Average priced in dollars. Well, what if the Dow Jones Industrial Average was not priced in dollars? What if the Dow Jones Industrial Average was priced in another currency? Or, let's put it simply, in a universal commodity, when it's been around a long time? We've got Bitcoin, which is a relatively new commodity that people are using as a currency substitute, but gold, arguably, is one of the oldest stores of value in one of the original currencies and has been around a lot longer than even the dollar.
Keith Lanton:So let's talk about the value of the Dow Jones Industrial Average in terms of the price of gold. Well, the Dow Jones Industrial Average in terms of the price of gold, if you go back about 100 years, well, the first big peak occurred you probably guessed it in 1929. And in 1929, when you took a look at the Dow Jones Industrial Average and divided it by the price of gold, it got all the way up to 18. Because the Dow was trading at 381 in 1929, and gold was at around $20 an ounce, giving us an average if we were pricing things in gold of about 18. In gold, of about 18.
Keith Lanton:And if you go back post-1921 and go into the 1940s, all the way into the 1950s, you were probably looking at an average. If you were pricing things in gold relative to the Dow, you were looking at a level of about five, down from 18. So you took the Dow, divided it by the price of gold and you were looking at about five. So if you were pricing the market in terms of gold instead of dollars, well, you were looking at the market still down almost 70% from 18 to five, even in 1950. But those who are old enough to remember may remember a period in the 1960s which became known as the period of the nifty, 50, 50 stocks that were technology oriented companies like IBM, sears, roebuck, polaroid, eastman, kodak, all these great new technologies in the 1960s. And markets screamed higher in the 1960s. And if you go back to 1965, markets screamed higher in the 1960s.
Keith Lanton:And if you go back to 1965, well, we had a new peak in the US markets when it was priced in gold. We got all the way up to 27. We were at 18 in 1929. Throughout the 1940s we were sitting at about 5. So if you were pricing your stock market in gold, well, in 1965, if you had been invested in the market, you were feeling very rich again if you were pricing things in gold. But markets sold off.
Keith Lanton:Those who may remember a period of great inflation and during that period of great inflation, well, you may remember that the gold prices got awfully high Back in about 1979, 1980, they got all the way up to about $2,000 an ounce, and that's in terms in 1980. And therefore, if you were pricing the market in gold back at that time, you were looking at levels that went down to about two or three from 27. So you weren't feeling very rich in the 70s. If you were pricing your portfolio in gold, even if you're pricing your portfolio in dollars, you probably weren't feeling very rich. And then we had the dot-com bubble 1999. Equity markets in the 1990s were screaming higher. Gold was sitting that one out. People were investing predominantly in US equities, above all else, and we see that the peak of the market if you were pricing it in gold in 1999, we had the Dow get all the way up to $11,200. And we had gold at about $250 an ounce, that's down from about $2,000 in the 1980s, and we were looking at a ratio of about $41. And then we had a period where the markets went priced in gold all the way into the early 2000s, when the Dow sunk all the way down to about 6,000. Well, that peak went from 41 and we got all the way down to about 8 in the early 2000s and then we ran back up. Just to get things here pretty quick, we ran back up to 22 in September of 2018. And now in 2025, where we're looking at the price of gold at about $3,300 an ounce.
Keith Lanton:If you're looking at the markets relative to the price of gold, you're at about a ratio of 12. So, if you're pricing your markets on a relative basis not in dollars, which is something that has been depreciating in value relative to gold because we are printing more of it and creating more of it If you're pricing things in dollars, well, you're looking at markets that are just off of record highs just off of record highs. If you're pricing things in gold, again, all things are relative. Well, you're looking at a market that's down about 65% 70% from its high. So value is relative and we view market values as absolute. But in reality, again, there are two variables. There's a variable of what is the index of the market and then, perhaps equally importantly, is what is the denomination? What are you pricing it?
Sophie Cohen:in in.
Keith Lanton:Africa and you're looking at the value of their markets. If somebody told you well, the market there went from 10,000 on an index to 50,000, your first question would probably be well, what did the currency do? What is it denominated in? We don't think that way when we think in terms of our markets, but perhaps we should start thinking a little bit more like that. So here we are. In the US, we've got markets down about three-tenths of a percent coming into today. Today looks like a good day, but what we do also have let's take this full circle is we have the dollar index. So now let's not compare ourselves to gold, let's compare ourselves to other currencies in the world.
Keith Lanton:Coming in on January 1 of this year, we were looking at the dollar index, which is about 108.5. Now the dollar index is about 99. What does that mean? Well, that means that the value of the dollar versus other currencies in the world down about 8.3% year to date. Us equity markets down about three-tenths of 1% here. So if you were a foreign investor and you had a basket of currencies and you were looking at your US portfolio, you would be not looking at a drop of three-tenths of 1%, you'd be looking at a drop of 8.6%, the 8.3 plus the 0.3%. So when you look at the markets you have to say to yourself what is it denominated in? How does that compare to other asset classes? Because, relatively, are you getting wealthier or are you getting less wealthy? Relatively to whatever it is that you are comparing yourself to years and talk a little bit about, perhaps one of the reasons why the US equity markets, despite news so far this year that has been challenging with respect to tariffs and concerns about growth and inflation here in the United States, even though we are down three-tenths of one percent perhaps worse if you look at it in another currency, but nevertheless pretty resilient and looking at an update today, wall Street Journal reporting, one of the reasons that the markets have rebounded and have gone up is because investors in the US, especially individual investors, have been piling into ETFs at a record pace, despite the market turmoil. So US exchange-traded funds have collected $437 billion in new assets so far this year and the biggest beneficiary of those new assets is now by far the largest ETF in the United States, and this is again a lot driven by individual investors, not institutions, who have been a lot more cautious, and that is buying of the Vanguard S&P 500 ETF. The symbol is VOO and it has become the world's biggest ETF by assets. Also interesting phenomena occurring in 2025 is that active ETFs meaning ETFs that are managed more typically thought of as managed products. As managed products, you think often of mutual funds, but ETFs are starting to enter the world of managed products and active ETFs are gaining traction and capturing a significant share of new assets, especially among retirees. About 30%, in fact, of equity purchases in ETFs are going into active management. This is up from 10% just a few years ago.
Keith Lanton:All right, so let's take a look at the markets this morning. Equity futures have rallied this morning. I'm going to also take a look here. We're also getting some economic news. At 8.30 this morning. S&p futures about 87 points over fair value. Markets are encouraged by news that President Trump will delay the implementation of extra tariffs on imports from Europe until July 9th. The advance in extra futures has been accompanied by gains in Treasury futures and other sovereign debt. Ten-year US yield last I looked was down five basis points to $4.47. Two-year yield is down two basis points at $3.98.
Keith Lanton:Market will receive a few economic reports today, starting with the 8.30, which is about 10 minutes ago release of durable goods orders for April. Those numbers came in better than expected Durable goods orders. Now this number is going to sound bad, but it's better than expected down 6.3%. We're expecting them to be down 8.1%, but the prior period was revised to up 7.6 from 9.2. You put that all together and you're looking at numbers coming in relatively as expected. If you average it all out. Last month we saw durable goods spike because of people trying to beat the tariffs and get the things done before the tariffs kicked in and therefore this month we saw a negative number because a lot of that this month had been pulled forward into last month. If you look at durable goods orders ex-transportation those are up two-tenths of a percent. Expectations were for them to be flat but again if you look at the prior month, it was revised down two-tenths of a percent from zero. So you put them both together and you're pretty much basically in line, pretty close to expectations.
Keith Lanton:A couple of companies in the news UBS are saying that they are seeing a waning global interest in Tesla. They're citing EV, electric vehicle saturation, brand damage meaning that folks are buying vehicles other than Tesla because of their personal feelings towards Elon Musk as well as rising competition. Reports that electric vehicle sales in Europe were released this morning and showed the European market growing significantly in terms of the electric vehicles being deployed, but Tesla vehicles down significantly in terms of not only market share but in terms of absolute vehicles being sold in Europe. Again, perhaps in reaction to some of the commentary from Elon Musk, amc, the movie theater chain, this morning up on reports that we had record revenues at the Memorial Day box office First time we've seen that in quite some time as streaming has taken America by storm. But folks, if they have a product that they're interested in, apparently we'll go to the movies, and we saw two movies, disney's Lilo and Stitch, having a record box office weekend and the Mission Impossible movie also seeing a significant interest driving Memorial Day weekend box office receipts.
Keith Lanton:Also in the news this morning, white House director Kevin Hassett saying he expects a few more trade deals, possibly as soon as this week. Commodities this morning natural gas down about five cents, gold is down about seventy five dollars an ounce, so we talked about gold markets being priced in gold, so that ratio will go up a little bit this morning. Silver is down about 60 cents and in terms of geopolitical news, president Trump saying he agreed to extend the EU tariffs to July 9th We've mentioned that several times and says talks will begin rapidly. President Trump condemned Russian President Putin for recent attacks on Ukraine and said he is considering additional Russian sanctions. That's according to the New York Times. Reuters saying that Japan is mulling trimming issuance of long dated bonds. Bloomberg saying that the EU has agreed to accelerate discussions with the US to avoid a trade war. That's the other half of the news. Regarding Europe, cnn reporting that Senator Ron Johnson, a Republican from Wisconsin, saying in an interview there is enough Senate Republicans to hold up the reconciliation bill unless larger spending cuts are included. Perhaps that's something giving some optimism to the bond market, which is looking for some more fiscal discipline. Bloomberg reporting that Japan wants to reach a tariff deal with the US in June. Washington Post reporting that nuclear talks between the US and Iran made some progress but it was not conclusive. And Reuters reporting that President Trump has told reporters he wants the US to make technology products and military equipment, not sneakers or shirts.
Keith Lanton:All right, so what else do we have going on this week? Tomorrow, the Federal Open Market Committee releases the minutes from its early May monetary policy meeting. Nvidia and Salesforce released their results after the closing bell on Wednesday, so that will be carefully watched tomorrow. Costco and Dell reporting earnings after the close on Thursday. Friday big report on inflation Bureau of Economic Analysis releasing the personal consumption expenditures price index for April we're looking for a 2.2% year-over-year increase, one-tenth of a percent less than in March. Less than in March. Here's a number having to do with the recently passed bill through the House talking about the Congressional Budget Office projection of the additional deficit over 10 years from the House tax bill. That is coming in at a number of $2.3 trillion. Now that could potentially be offset by some tariff revenue, but the likelihood of it being 100% offset by tax revenue is unlikely, at least based on current projections.
Keith Lanton:All right, so let's talk about some individual sectors of the market. Barron's talking about healthcare stocks, saying that they are so bad that they are good. So let's talk about healthcare, which has been out of favor for a long time. Healthcare stocks have been behaving badly for so long it's hard to tell whether they need a doctor or a mortician. Barron saying they may be finally on the verge of a revival. Healthcare's bad run isn't just a 2025 phenomenon. The health care select sector spider has underperformed the S&P 500 by nine percentage points annualized over the past five years. So clearly more than President Trump and his policies is weighing on the sector. But Barron's saying the pendulum has perhaps swung too far, to the extreme. These sentiment shifts can get too extended, and now may be one of those moments.
Keith Lanton:Barron talks to Jason Goepfert, a founder and senior research analyst at Sentiment Trader, and he notes that the ratio of the price of the health care index relative to the S&P 500 fell more than 35% from its most recent high, something that has occurred only seven times before in the last 100 years, and this has typically been a good time to buy when you've seen this sort of underperformance. The return over the next 12 months when you've seen this level of underperformance, has been 17%. But there's more. The healthcare ETF traded at a 52-week low on May 15th, before rallying to finish that day above the previous day's high. That too is a rare occurrence. It's happened just four other times since the ETF's inception in 2000. Once again, when that's happened, returns have been quite good. So now we have two events. When they happen, the returns have been quite good. When that has happened, the ETF has averaged a 21% rise over the following 12 months. On top of that, we do see insiders taking the long view. Goport notes that they've been scooping up shares of beaten up UnitedHealthcare and Humana, among others, with buying outpacing selling, and it's another indicator that has had good prognostication of returns going forward.
Keith Lanton:All right, let's talk a little bit about two companies that were both at the pinnacle of their markets at different times, one of which is IBM, which has been riding high again recently. Barron's out cautiously on IBM. Another, which is more of been the leader the last, let's say, decade or two, and that's Google. Barron's also cautious on Google. So let's talk about these two technology stocks. Let's start with IBM, which is trading around $260 coming into today, up about 20%, near a record high, and it is the best performer in the Dow year to date.
Keith Lanton:Ibm being given credit for becoming an emerging leader in cloud computing and generative artificial intelligence thanks to its products and services. That has helped fuel growth in its software and consulting business and fuel excitement for the stock. The problem is that investors may now have unreasonable expectations. Ibm is no longer being valued like a slow growth old tech company that relied heavily on stock buybacks to boost earnings per share. Big Blue is now trading at 24 times 2025 estimates. That's a five-year high and it's significantly above its historical average of 15.4. Not only that, ibm is now trading at a 7% premium to the S&P 500. It's typically fetched a 30% discount to the market, and analysts are forecasting earnings per share increases of 6% to 7% over the next few years, meaning that it is trading at a higher price-to-earnings growth ratio than companies like NVIDIA and Alphabet, and even slightly higher than Amazoncom.
Keith Lanton:Let's move on to Google. Barron's saying Google struck gold with the search, and they're saying now may be the time to move on, and this is a company that Barron's has previously been very bullish on. So the debate on Wall Street now is whether Alphabet Google's search is being disrupted by AI chatbots and whether the company is up to the task of pushing back. This week, google offered its most significant response with the introduction of a major change to its search engine. The technology is impressive, but the question is is it enough? Google is facing the classic innovator's dilemma. So what that means is it's got a business that is dominating its market, and they are at this crossroads. Do they innovate and take the risk that they may cannibalize their existing business, or do they try and squeeze as much juice as they can out of the existing business while at the same time trying to innovate and doing it not quite 100%, not diving in, kind of being half pregnant? And that is the challenge that Barron sees for Google at this moment, as they are suffering from not being all in, like, let's say, a chat GBT or a perplexity, which don't have an existing business that they need to defend. We also see the younger generation talking to Sal here in the office in Melville. Younger generation is not saying let me Google that, they're saying let me chat GBT it. So when the verb shifts, certainly something that leads to concern and consternation. So the question is can Alphabet overcome the innovator's dilemma and become a successful company in the future, as successful as it is currently?
Keith Lanton:Maintaining their relevance and history is littered with examples of incumbents moving too slowly when the next big shift arrives. Barron says IBM dominated mainframes but then missed the emergence of microcomputers. No major mainframe company was able to lead in microcomputers, and then microcomputers were supplanted by, or minicomputers as they're also known, were supplanted by PCs, and companies like Digital Equipment, sun Micro, that dominated in these minicomputers were unable to become the new leaders in the PC world. So Google certainly has their work cut out for them. So that then begs the question well, what potentially could be the next IBM, the next Google? These are certainly really difficult to find. What could be the next NVIDIA? Obviously, this is something that takes a great deal of research and then things have to really line up all the constellations, all the stars, for these companies.
Keith Lanton:But Barron's had an interview with Longato Innovation and their partners, james Anderson and Morgan Samet, to talk about companies with explosive growth potential and a couple of ideas that they shared, and I'll whittle it down to a few to share with you. So they talked about autonomous vehicles. We've heard about autonomous vehicles from Waymo, which is a division of Alphabet. We've talked about robo-taxis and autonomous vehicles, certainly from Elon Musk and Tesla, but Barron's once again talking about autonomous vehicles in a different area, and this is in the trucking space, in a company called Aurora. Innovation symbol is AUR. They are the leading autonomous trucking company in the United States and they are not getting as much attention as those other autonomous vehicle companies.
Keith Lanton:Autonomous trucking is a harder business than cars. Trucks go faster, they carry heavy materials, there is more regulation and companies operate across state lines. But the savings associated with autonomous trucking are massive being able to run a truck continuously, 24 hours a day, seven days a week, driver doesn't get tired and keep going consistently and move from point A to point B. Well, that would be a huge uptick in the profitability curve, according to the gentleman over at Legato Innovation. In terms of profitability, well, that's not necessarily on the horizon, but they say they're not focused on profitability at the moment. They're more focused on whether the company, in this case Aurora, has enough cash to carry out its mission and achieve the milestones needed to receive more cash. And they say Aurora has a multi-year runway in terms of cash. They have a supporter investor base, they say contracts, partnerships with the three largest original equipment makers, that's, truck manufacturers.
Keith Lanton:Another company that they mentioned that they are long is Boyd BYD, which is the Chinese electric vehicle manufacturer, car maker, but now really known as an electric vehicle maker. They are the dominant EV force in the industry. In fact, the stock is lower this morning on news that boy BYD has cut their prices in China, perhaps an effort to gain more market share, but nevertheless, markets are always concerned when they see potential for profits to dwindle based on those price cuts. But in the past three years, two things have happened. First, the Chinese EV market has become dominant in scale and second, byd has emerged as the leader due to its battery technology. Today, byd has 30% of the market, and that is because of their deep commitment to science. Recently, byd announced that they had technology that would enable a car to charge in as little as five minutes and have a range as long as 500 miles. That has not come to market yet, but these are the innovations that they have announced.
Keith Lanton:Finally, one last company mentioned in this article. The name of this company is Tempus AI T-E-M-P-U-S-A-I. This is an AI diagnostics company. They provide genomic sequencing, and the costs are falling for genomic sequencing to the point where it may be possible to sequence people's genomes multiple times throughout their life. The company focuses on oncology and is connected in near real time to more than 50% of all oncologists in the United States. They expect Tempest to grow substantially in future years. It's already nearing profitability and will have a high margin structure relative to their competition. They all have a lot of optionality in terms of how they can lock in profitability. They have a distribution lock in with doctors, they have their data, which has value, and they have their sequencing business as well.
Keith Lanton:So finally, let's talk bonds and then we'll wrap things up. Barron says interest rates are rising globally. That's something that could ultimately be problematic, as bonds offer more competition for other investments, like stocks. So something that equity investors need to keep their eyes on. Individual investors need to keep their eyes on it, not only because of what it may mean for their equity portfolios, but what it may mean for the fixed income portion of their personal portfolios. And again, this comes down to what is the proper allocation between stocks, bonds and other asset classes within your portfolio, within your portfolio.
Keith Lanton:So one thing that has changed is that we have seen the US government get downgraded by Moody's, which is the third rating agency to downgrade US government debt. But interestingly, if you're looking at the cost to hedge US government debt against default something called credit default swaps, according to some analysts from Macquarie Swaps, according to some analysts from Macquarie, which is an Australian investment bank, they are saying in this article that the cost to hedge US government debt against defaults are now consistent with ratings of BAA1 to BBB plus rated credit. Doug Cass of Seabreeze Partners points out that the US credit default swap spreads are now approaching those currently for Greece. So what we've seen here take place in the US government bond market I'd argue in 2025, is a change in the component of what makes up the interest rate of a US treasury.
Keith Lanton:Us treasury used to be considered risk-free and I think it was priced as risk-free. So what did that mean? That meant that the return or the yield that you earned on a treasury was made up of two components One was the risk-free rate of return and two was the inflation rate. So if the market said we need a risk-free rate of return of 2% and we said that the inflation rate is running at 3%, well then we'd be looking at a 5% yield on a bond. But now we have to add in something that we previously didn't factor into treasuries and this is something that is somewhat controversial but something to think about and that is default risk. So when you are looking at the yield on a treasury today, you may not be looking at just those two components treasuries than it historically has, or it's more expensive relative to treasuries. You have to ask yourself is that because the market is perhaps mispricing things, or is that because these investments on a default risk basis have suddenly become more attractive relative to treasuries or, on a relative basis, again back to that relative world of treasuries become perhaps relatively less attractive, and that's something that we need to keep our mind on as we evaluate the bond market going forward and we look at historical relationships between different asset classes in the bond market.
Keith Lanton:One of the other factors to keep in mind is that not only are treasury yields picking up here in the United States, but they are also picking up in Japan, as Japan is also experiencing significant budget deficits something that's gone on for a long time but markets there are becoming more increasingly concerned, and what has happened is that the yield on 30-year Japanese government bonds have picked up to about 3%. Here in the US, we're at 5%, but because our dollar is getting weaker, it's getting more expensive to hedge. If you are a Japanese investor, meaning Japanese investors what were they doing? They were buying US assets, us treasuries which were yielding a lot more than Japanese bonds, and then they were hedging away the currency risk. Today, if a Japanese investor were to buy US treasuries at 5% instead of Japanese treasuries at 3% and hedge away the risk, they would earn less than 3%. So what's their incentive? Their incentive is to now purchase more Japanese government bonds, and this is perhaps one of the factors pressuring our treasuries here that we are seeing less issuance of or less demand for US government bonds here in the US from our friends in Japan.
Keith Lanton:Finally, I will mention an interesting statistic.
Keith Lanton:I was talking about the high yield or the junk bond market, as high yield is sometimes referred to, and an interesting statistic is that the entire high yield bond market is worth $1.4 trillion bond, that's bonds that are trade publicly, that are rated lower than BBB minus or BAA3, you're looking at $1.4 trillion of high yield bonds.
Keith Lanton:The treasury market grows by that same amount every nine months because of budget deficits. So if you're looking at the size of the high yield bond market and you're someone who's somewhat inclined to think that the yields in the high-yield bond market, which are north of 6%, are attractive, you may find that on a supply-demand situation, that right now that may be an attractive time to consider high yield if you believe that the high-yield market can continue to perform well and that they will continue to have good credit, meaning that we're not going into a recession and going to suffer from potential defaults. Well, given the small size of the high-yield market and the potential demand, we may see a narrowing of those credit spreads as long as we see that the US does not go into a recession.
Keith Lanton:That's everything I've got.
Alan Eppers:Thank you for listening to Mr Keith Lanton. This podcast is available on most platforms, including Apple Podcasts, Spotify and Pandora. For more information, please visit our website at www. heraldlantern. com.
Sophie Cohen:Opinions expressed herein are subject to change and not necessarily the opinion of the firm. Past performance is no guarantee of future results. The information presented herein is for informational purposes only and is not intended to provide personal investment advice. It is important that you consider your tolerance for risk and investment goals when making investment decisions. Investing in securities does involve risk and the potential of losing money. The material does not constitute research, investment advice or trade recommendations.