Investors are still worried about the stock market. It’s quite understandable, given the recent correction, but it draws their attention away from the really important developments. Let’s analyze the hidden threats and consider how they could affect the gold prices.

It’s Bonds, Stupid!

Let’s establish one thing at the beginning. The bond market is more important than the stock market. First, it’s significantly bigger. The global bond market exceeds $100 trillion, while the global stock market is higher than $70 trillion. Point for bonds.

Second, the bond market is more diversified, or, less sensitive to sentiment – and more to fundamentals. The indicators of the bond market are not so famous as S&P 500 and Dow Jones, while fixed returns make bond returns more predictable.

Third, the bond market exerts stronger effects on the stock market than the other way around. When bond yields are high, there’s no reason to invest in equities. Why should you invest money in a risky project, when you can pick up nice profits in the less risky bond market? Please also note that the Fed injects new money into the bond market – to lower interest rates and put upward pressure on stock prices.

Unfortunately, despite its importance, the bond market doesn’t get enough attention. Until something bad happens, of course. Recently, everyone talks about Treasuries hitting 3 percent. What would it mean for the gold market?

Will 3% End the World?

Yields on the 10-year Treasuries are heading toward 3 percent. As one can see in the chart below, they touched 2.94 last week.

Chart 1: 10-Year Treasury Yields (in %) over the last twelve months.

What does it mean? Well, bond guru Bill Gross claims that the bear market in bonds has finally begun. Higher yields should make the stock market look less attractive. However, investors should remember that climbing Treasury yields imply lower bond prices. Hence, fund managers may shift their allocations toward foreign fixed income. Such changes should further weaken the U.S. dollar. Thus, gold may shine – even if Treasury yields are rising.