The End is Near!!

For the the treasury market that is.

Perhaps its time to change the name of my blog to "The Treasury Time Bomb" since the housing time bomb already went off?

Folks, what happened in the short end of the treasury market on Friday was flat out frightening. Lets take a look at how treasuries moved yesterday:

3 Month 0.16% +0.03 (23.08%)
6 Month 0.32% +0.05 (18.52%)
2 Year 1.31% +0.19 (16.96%)
5 Year 2.84% +0.10 (3.65%)
10 Year 3.83% +0.02 (0.52%)
30 Year 4.62% 0.00 (0.00)

Here is Bloomberg's take on the bond action on Friday. I respectfully disagree with most of this article. The "yields are rising as the economy recovers" argument is a bunch of hogwash IMO but feel free to take a look. Its always nice to hear the other side of the argument.

My Take:

Yikes!

As you can see, we saw about a 20% jump in yields in the short end of the treasury market on Friday. This is NOT good folks. The FCB's are already running away from the long end. If they begin to run away from the short end does it mean they have lost total confidence in US Treasuries altogether?

The one area of the bond market that was still showing strength was the short end because the risk is much lower for the FCB's since the bonds mature much faster.

We have already seen huge moves in the 10 and 30 year bonds as a result of our spend happy Fed. The FCB's are running away from the long end of the curve because the increased spending by our government has created a huge inflation risk which would be devastating to anyone holding the long end of the yield curve(10's and 30's)

As a result, China and others have recently been piling into the shorter end of the bond curve despite the fact that they are getting 1/3 of 1% return which is basically nothing! The bid to cover's in the short end have been around 3.5-1 which can be interpreted as healthy demand. A 2-1 bid to cover or higher is considered to be a successful bond auction.

Is the World "Walking Away" From Our Bonds?

After reading the article below from the well respected Financial Times, you gotta wonder:

"China is “actively considering” buying up to $50bn of International Monetary Fund bonds, the country’s State Administration of Foreign Exchange has said.

John Lipsky, IMF first deputy managing director, confirmed the Chinese proposal, which follows one by Russia to buy $10bn (€7.1bn, £6.2bn) in IMF bonds

Friday’s statement by China said any investment would be made according to its usual criteria of “safety and reasonable returns”, but made no mention of Beijing’s wish for more power in IMF decision-making, in return for financial support.

Safe, which controls almost $2,000bn of China’s foreign exchange reserves, added it was ready to help the IMF explore more ways to raise finance.

Mr Lipsky said the Chinese and Russian proposals were part of a commitment made during the London G20 summit in April to augment IMF resources by $500bn, and that the IMF “absolutely welcomes” the commitments.

The IMF expects to submit a proposal in the next few weeks that would allow it to raise money through issuing notes or bonds."

My Take:

Ouch!

Scary stuff folks. I think the Times did a great job breaking this all down. Both China and Russia are obviously extremely nervous about their treasury holdings as a result of the Fed's reckless spending behaviour.

The world wants a viable alternative to our bonds. It looks like the IMF is the perfect alternative. This is also a "power play" by Russia and China in terms of having a bigger say in the IMF. "Money talks", and these two have a bunch of reserves to invest.

The USA currently has zero reserves to spend as we continue to drown in debt. As a result, if I was the IMF, I would keep the door wide open for both the Russian's and the Chinese. What's interesting here is the USA has the most power and influence on the IMF because we are the world's largest economy.

Let's see how this all plays out. My guess is the ROW's concern around our solvency combined with with the huge reserves of Russia and China could render the USA powerless when it comes to us preventing the creation of IMF bonds.

If the IMF plays ball with China and Russia and successfully creates this bond alternative we are...ummmm....I really know how else to say this: Fucked!

Bottom Line:

We could have a "come to Jesus" moment in the bond market this week when the long term treasury auctions are held.

Did Timmy perhaps make a deal last week with the Chinese in terms of getting them to agree to continue to buy long bonds in the near term? Perhaps, but if he did, it means the Fed is going to either start raising rates or stop spending. I can't see the Chinese agreeing to buy more of this treasury garbage unless the Fed agreed to play ball by stopping all of the spending nonsense.

Either way, both of these options will be devastating for equities because it means that the bailout "tap" will have to be shut off.

The Fed can't win in this predicament. We either stop spending or the bond market blows up as the world runs away from our debt. The IMF story is a huge one folks. The HEAT IS ON the Fed and their spending.

It's possible that we could see a failed auction this week in the long end which would possibly result in a bond dislocation. If this happens, 10% interest rates will be right around the corner. This would then implode our economy and the financial system as we know it.

Its Judgement Week!

Time has run out on the Fed. Could they keep the game going for a little while longer with some successful long bond auctions? Yes, but it will come with consequences. You will have your answer if equities collapse next week which then forces investor's to come over and "save" the bond market.

They can play this liquidity game back and forth between stocks and bonds or awhile.

However, it can't last long because each time they pull this trick, investor's on the wrong side of the trade will take huge losses. This results in massive losses of liquidity in the stock market. Folks, when there is no liquidity, there is nothing to support stock or bond prices!

You can thank the Fed and their trillions for this recent 40% rise on the S&P. This huge bounce is basically the result of the Fed using its liquidity to pump up the stock market via the banks. The problem with this game is the Fed and its liquidity is about to be cutoff by the bond market.

Lets see how this all plays out next week. I expect a lot of fireworks.

Stay Tuned!