Wednesday, May 27, 2009

TNX Havoc

Maybe I'm going to be right a lot sooner than I thought.

This isn't tough to describe.


Why Bonds are the Real Market To Watch

I'm not saying anything that hasn't been said before: The Stock Market is often noise and game-playing. Credit Markets are the true barometer of economic health.

But, right about now, this bears repeating. Over and over again.

I wrote last week about Crowding Out the Future and even further back about yields beginning to blow out further out on the curve.

I'm not the only one who fears imminent collapse may be upon us.

Bond Market Close May 26 2009

Prices of Treasury coupon securities are tumbling today and the longer the maturity of the issue the more painful the plunge.

The 2 year note has suffered the least as its yield increased by 3 basis points to 0.92 basis points. The yield on the 3 year note climbed 8 basis points to 1.46 percent. The yield on the 5 year note climbed 10 basis points to 2.30 percent. The yield on the 10 year note soared 9 basis points to 3.54 percent. The yield on the 30 year bond also jumped 9 basis points to 4.48 percent

The yield curve is losing its curve and is about to go perpendicular. The 2 year/30 year spread is closing the day at 356 basis points. I have recounted many times here that the widest level for that spread since man has walked erect was at 369 basis points in October 1992. The yields were 3.60 and 7.29 percent, respectively.

The 2year /10 year spread is 262 basis points and it is within hailing distance of its record level of 273 basis points which I believe we touched in 2003 when the Federal Reserve pilots were just receiving their helicopter licenses.

The 2 year/5year/30 year spread has broken down and trades 80 basis points. That spread had supported at 90 basis points but will probably now trade between 60 basis points and 90 basis points.

Why is the market crashing and why is the curve so steep?

We are drowning under the weight of near term supply for sure but I guess I think something else is afoot here.

Look at the breakeven spread on the 10 year TIPS bond. That spread is currently 185 basis points. I do not believe that we have been that wide since the advent of the financial crisis in 2007. I think that investors are uttering a gigantic and collective nyet regarding the implementation of monetary policy and fiscal policy in the US. That is why the curve is steepening so dramatically.

Foreign central banks continue to intervene, buying dollars and selling their local currencies. The names most mentioned in that endeavor are Russia and Brazil. Sources tell me that the fruits of the intervention are parked in 2 year notes and 3 year notes. There is a dearth of central bank interest in the longer maturities.

Some cite the very strong 2 year note auction today as a sign of the market’s health. I think not. The issue is propped up by the prospect of a very low funds rate for an extened period of time. The carry and ride down the curve profits are seductive.

Central banks bought over 54 percent of the issue. I would submit that while that is great for the 2 year note it is a less than festive sign for the 5 year note and the 7 year note which will auction over the balance of this week, the money in the 2 year note is money that will not be invested in the 5 year note and the 7 year note. The treasury should organize a posse to search for marginal dollars for the 5 year and 7 year. If one wishes to observe bond market panic I think it would develop quickly if the 5 year note or the 7 year note auctioned with long tails as we observed in the Bond auction earlier in May.

A long tail in a bond auction with its attendant risk is one thing. If that were to occur in a shorter maturity in would be a sign that investors are in full retreat from longer dated US assets.

Maybe the final climactic event is upon us. Maybe the final bubble to burst is the US Treasury market and maybe we are on the verge of a financial Krakatoa which will realign financial markets.

Whatever the case it feels like the calm before the storm and we are about to embark on another interesting expedition.

I feel like the perennial Chicken Little lately, but I can't get around the facts - and the rationale that accompanies them.

Government cannot control markets. They can jump in the pool and splash around for a time, but in the end, homeostasis will occur.

Thursday, May 21, 2009

Crowding Out the Future. Bond-Style.

I am not any less short on time than I have been recently, but I was compelled to discuss an issue which I believe could be profoundly disturbing.

I have discussed the "crowding out" effect before as the government and/or Fed (who can tell where one stops and the other starts nowadays?) tries intervening in a multitude of markets. For ease of reference, let's just say that here it means that vested parties (investors) take their ball and go home when both their resources and demand have been diminished by government actions creating competing objectives.

And, of course, in this instance we're talking about that tiny little immaterial market known as Treasuries. You know, the one where we rely on investors - mostly foreign - to give us money for what everyone surely knows are worthless IOUs down the road. You know, the one that keeps our currency, and economy, from collapsing.

I have long wondered how the strategy can keep from crowding out demand from investors, when artificial Fed demand that will dissipate down the road will shred Bond investors by backing that demand out, flipping prices on their head and driving yields through the roof. I wondered how it would prevent compelling Treasury buyers from becoming sellers to the Fed itself. In this instance, the US authorities would eventually "crowd out" everyone but themselves as both buyer and seller (seller when the Fed eventually held most, if not all, Bonds).

Um, yeah, well, good news!

CBs And Other "Real Money" Had Enough?

"21. There apparently is a new wrinkle to the intermediation trade between buying from Treasury to sell to the Fed with real money, including central banks, now in on the act. Indeed, several Street sources relay central banks were aggressive offers into this morning's coupon pass, with one letting go of a large block of old 5-years. Other offers too are coming in from embedded Asian real money longs -- in the higher coupons -- also looking to sell size without unduly upsetting the market, and especially considering the illiquidity in off- the-run bids from the Street."

"Whether influenced or not by the much higher tenders coming in on the Fed Passes ($45 bln tendered for $7.4 bln bought in today's pass for a 16.2% hit rate), fast money has been tattooing the bid and especially so in the belly with the 10-year most leaned on. Note as well, earlier this week the Bank of England (BoE) gilt pass too saw a need to offer paper at or below the market's bid side in order to get sales off."

"If Foreign Central Banks are selling into Ben's bid then the game is literally weeks or even days away from being over."

"I have written for over a year about the potential for a bond-market implosion and subsequent economic collapse."

"We are following the precise same path we went down in the 1930s."

And more good news that seems to be trashing the long end of Treasuries today:

Britain no longer a AAA nation? It could happen, S&P warns


"Britain was put on notice today that it could lose its AAA credit rating because of massive government borrowing, a warning that ought to at least prick up the ears of U.S. policymakers."

"Standard & Poor’s cut its credit outlook for the United Kingdom to "negative" from "stable" and said there was a one in three chance that the country’s AAA rating could be reduced."

From Bloomberg News:

"We have revised the outlook on the U.K. to negative due to our view that, even assuming additional fiscal tightening, the net general government debt burden could approach 100% of gross domestic product and remain near that level in the medium term," S&P analysts led by David Beers in London said in the report.

"The downgrade highlights the precarious fiscal outlook the U.K. economy faces," said Nick Stamenkovic, a strategist in Edinburgh at RIA Capital Markets. "The huge amount of issuance to face the [bond] market in the coming months will push yields to the upside. We’re bearish."

Like the U.S., Britain is borrowing heavily to rescue its economy from a deep recession. Britain’s debt load next year will be 66.9% of gross domestic product, Bloomberg said, citing forecasts from the International Monetary Fund. That would exceed Canada’s 29.1% and Germany’s 58.1%. The U.S. will be at 70.4%, and the 16-nation euro area at 69%, according to the IMF.

In case you missed the hidden subtlety, America will have a debt-to-GDP ratio that is 3.5 points higher than the UK. Not to harp on the obvious, but this seems to be strategic maneuvering by S&P to give the US a signal as to the guillotine that they may be soon to drop.

Something very telling happened today. The dollar has been getting absolutely blown apart lately, but the story today wasn't the Pound taking the greenback's place. It was...the dollar getting blown apart again.

The cynical part of me reads this with a single-minded vacuum: Traders know what is coming for the US is much worse than the rest of the world.

Friday, May 15, 2009

"The Worst Is Yet to Come: If You're Not Petrified, You're Not Paying Attention"

I have not had much, if any, time to post lately, but will resume soon enough. In the meantime, this pretty much sums up my current thoughts.

Which were a lot like my previous thoughts.

Which will probably be a lot like my future thoughts for many moons to come until major economic structural changes take place.


So much for the embedded player, which doesn't seem to be working. Here's a direct link to the online player with video.