Monday, August 16, 2010

Wall St's Bond Addiction Intensifies

Stocks closed the day relatively flat as money continued to pour into the treasury market.

Lets take a look at the 10 year today:


My Take:

This chart has gone parabolic!  The contrarion in me is starting to believe this move is getting way over done.  Especially when I see articles like this:

"SAN FRANCISCO (MarketWatch) -- U.S. Treasury bonds, often a top choice for risk-averse investors, are attracting more interest from hedge funds now, according to a study released Wednesday by consulting firm Greenwich Associates.
Hedge-fund trading volume in U.S. government bonds surged by more than 70% in the past year. In 2009, hedge funds generated about 3% of trading volume in this market. This year, that share jumped to roughly 20%, Greenwich Associates said.

The move is being partly driven by demands on the $1.8 trillion industry by institutional investors."

Is Wall St Blowing More Bubbles or have They Been Paralyzed by Fear?

This is the million dollar question.  I am ALWAYS highly suspicious of any "pile on" trade that I see on Wall St.  Just look at the "pile on" trades we have seen just in the past 10 years:

-  The tech bubble in the 1990's...Need I say more?
-  The Housing Bubble...Enough Said.
-  The commodities bubble in early 2008 where oil soared to $150/barrel.

There are many other smaller versions of such trades but I will stop at these examples.

So are Treasuries the next bubble?  I am starting to think so.

Before I get into the reasons why let me start off by saying there are many reasons to be in treasuries right now.  The economy is a mess and nothing looks safe.  It makes total sense to own treasuries during such a chaotic time in history.

However, the reason I am skeptical about the current move is because the market isn't trading like it should be if this was a "risk off/Armageddon on" trade.

I mean think about it:  If people are so scared then why are stocks holding up so well?  If this was a flight to safety then wouldn't investors be selling stocks and buying bonds?

You would have expected to see a 4000 point sell off on the DOW the way treasuries have traded recently.  Yet the DOW was only down 3% last week.  I smell a rat especially since the hedge funds are now in the game.

IMO, he whole thing is very suspicious.  What I think is really going on here is the "unintended consequences" of the Fed's zero interest rate policy.

This policy has provided too much liquidity for the banks.  What I believe is happening is the banks have decided they are better off borrowing at zero and buying bonds on the longer end of the curve then they are lending the money to a bunch of unemployed potential borrowers.

Making matters worse is the fact that potential borrowers have zero desire to lend more money in the first place because they are too busy paying down their debts from the last bubble.

As a result, the banks are flush with cash and they don't have to take the losses on their books thanks to accounting standards that are non existent which makes them even more flush with cash!.

This treasury trade looks HIGHLY speculative to me folks and these things usually end very badly.

The Bottom Line

The treasury trade looks tired but I still thinks it has legs so I will sit on the sidelines for now.  The economy continues to tailspin and this will only put further pressure on our deficits.  Any push back by the bond market as a result of our irresponsible spending could force this trade to unwind.

What angers me here is we shouldn't even be here in the first place.  Our interest rate situation is really putting the fianancial system at risk.

Allowing the banks to make a killing using a zero interest rate policy is all well and good for the banksters.  The problem is it's destroying the rest of the economy because the money is not being allowed to filter down to Main St where it is badly needed.  

It's being hoarded by the banks and then being thrown into the treasury market.

This is killing the last place investors could find some yield and the "consequences" of such policy of this are extremely dangerous.  I say this because it's forcing investors to take on enormous risk elsewhere because they are desperate to fiend yield. 

Just look at the the corporate debt that's going bananas right now.

Corporate high yield debt issues has turned into a feeding frenzy as soon as it's offered.  Companies I have never even heard of are raising money via selling 10 year debt because they are offering 8-9% yields.

Ummm...How is this going to end well?  Many of these companies will not even be here 10 years from now.  MBS's were offering the same returns and we all know how that worked out.  The problem with the MBS instruments was the underlying debt was no good.

The same thing is going on this go around.  Most of these companies are using this money to roll over BAD INVESTMENTS/DEBTS. 

Example:  Commercial real estate is down 40% for the most part from it's bubble highs.   Yet companies like Simon Property Group have seen their stock price soar from $30's last year up into the $90's recently because they have been able to take advantage of the appetite for corporate debt

How on earth does this make any sense fundementally?  The debt they own is garbage.  Who is going to be shopping at the 100's of malls they own as unemployment soars?  How many of their stores will go bankrupt as the consumer evaporates.  How much more value will be lost on these properties when they do?

What if interest rates move higher?  What happens to this debt then?  

Let's get real here:  The only reason SPG is alive right now to begin with is because they got a free pass by the banks to roll over their debt at full value despite the fact that it's woth wayyyyy less.

The fundementals should be telling investors to stay the hell away from companies like this because their underlying debts are 30-40% over vauled. 

We all know what's going to eventually happen here:

SPG's cash flows will dry up as their tenants go BK and they will then be in deep doo doo as they try and make their debt payments to the banks and to the debt investors who allowed them to leverage back up.

The bottom line here is I believe we are seeing more bubble blowing throughout the financial system. 

The problem is the balance sheets are bad this go around from the beginning and investors are getting sucked into it because they feel like they have no other options because stocks and treasuries are doing nothing at this point.

I tell you one thing:  If the 10 year treasury gets down to 2% it will be time to get short treasuries because none of this is sustainable. 

The markets once again is having a party.  The problem is Main St wasn't invited this time because they are unable to profit from it like they did when they could flip houses.

The problem with this bubble party is only rich are invited, and without Main St. participating, it's likely to be a 4 hour affair versus an all nighter.

Disclosure:  No new positions held at the time of publication.

9 comments:

getyourselfconnected said...

On one hand when the government debt bubble blows it will be funny that so many people had joined the party;
On the other hand, the game is up!

Jeff said...

Get

This move in treasuries is terrifying isn't it?

I don't think this can be sustained much longer without the market tanking.

The fact that Wall St doesn't want much to do with stocks at this point when treasuries are this low is pretty unprecedented.

getyourselfconnected said...

Jeff,
remember the first rule in bubbles; they go on way longer than you would think!

This crap has 1-2 years left in it, but it all ends the same.

Anonymous said...
This comment has been removed by a blog administrator.
Jeff said...

Not this one bud


It reminds me of the commodity bubble. Rates can't go much below 2%. If they get lowe then that then the money market funds are in trouble. This move has been quick and violent. Can't see it lasting into the new year unless equities roll over.

The fed seems boxed in and one trigger could unravel this puppy. Remember how quick greece was? Wouldn't b surprised to see it be that quick here although rates would never get as high as theirs. At least not now. We'll see buddy. Hard to tell how this plays out.

Anonymous said...

"Comment deleted
This post has been removed by a blog administrator."

Jeff, please dont tell me you have resorted to censorship on this blog. Please tell me you had a legimate reason for removing that post.

Jeff said...

Yes I do.

It's been an ongoing issue and I have no problem with dissenting opinion.

Personal attacks on a consistent basis will not be tolerated.

I have isolated the ISP address who is doing this and its the same person over and over again that has some agenda.

This isn't acceptable behaviour from one person.

Anonymous said...

I have isolated the ISP address who is doing this and its the same person over and over again that has some agenda.

Lets be clear here, I do have an agenda - to show that you have a tendency to be a permabear and can especially clueless when it comes to the alleged subject matter of this blog - housing.

Case in point you said one year ago that you can "pretty much guarantee that housing will be lower in a years time". Well guess what my friend, if you are going to make statements like that, you can expect people to hold you accountable when the time in question arises and it turns out you were wrong.

If you need me to clean it up and be civil thats fine. That said, I thought that deleted comment of mine was pretty tame. Therefore I ask that you review the comment that you deleted and tell me what specifically was over the line (I'm serious about that - I accept your rules for discourse so I want to know what will not be tolerated).

Thanks

Jeff said...

Anon

It is not so much the last post.

Your posts in general are consistently hostile and very disrespectful. I get e-mails from readers asking me why I tolerate you.

You are disrupting this place and I don't appreciate it.

If you tame it down and are respuctful that is fine.

I make good calls and bad calls like any other person that follows the stock market. I told people to get out of the market in 2008. That worked out pretty well.

Housing cycles take years to play out and claiming anyone is right or wrong after 1 year is ludicrous.

Was I wrong about 2009 and early this year on the housing market in DC? Yes.

Do I think I am wrong over the longer term when it comes to the housing market? No.

If you are respectful your comments are welcome. If not expect them to be taken down.