Are US Treasuries About to Rally… or Crash?
Interest-Rates / US Bonds Oct 28, 2009 - 04:19 PMBy: Graham_Summers
Historically, because the US was the #1 superpower (and the largest economy in the world), Treasuries have generally held to be one of the very few “risk free” investments on the planet. Consequently, Treasuries are where money runs to hide when the rest of the financial world is in trouble.
You can see this in the below chart: as soon as the Financial Crisis began in earnest with the credit market lockup in July 2007, 30-Yr Treasuries broke above 112: a point of historical resistance. This told us two things:
- Treasuries were STILL considered a safe-haven
- The former point of upward resistance (112) was NOW the point of support (where Treasuries would bounce)
Today, thanks to a Fed Chairman who’s only skill lies in hitting “print,” today Treasuries may be in trouble… BIG trouble.
As I’m sure you’re aware, starting in July 2007, the financial markets entered one of the most severe crises in history. In response to this, the US Feds (Federal Reserve, Treasury Department, etc.) have tried to prop up the financial system with numerous interventions.
A brief recap of their moves are as follows:
- The Federal Reserve cuts interest rates from 5.25-0.25% (Sept ’07-today)
- The Bear Stearns deal/ Fed buys $30 billion in junk mortgages (March ’08)
- The Fed opens various lending windows to investment banks (March ’08)
- The SEC proposes banning short-selling on financial stocks (July ’08)
- The Treasury buys Fannie/Freddie for $400 billion (Sept ’08)
- The Fed takes over AIG for $85 billion (Sept ’08)
- The Fed doles out $25 billion for the auto makers (Sept ’08)
- The Feds’ $700 billion Troubled Assets Relief Program (TARP) (Oct ’08)
- The Fed buys commercial paper (non-bank debt) from non-financial firms (Oct ’08)
- The Fed offers $540 billion to backstop money market funds (Oct ’08)
- The Feds backs up to $280 billion of Citigroup’s liabilities (Oct ’08).
- $40 billion more to AIG (Nov ’08)
- Feds agree to back up $140 billion of Bank of America’s liabilities (Jan ’09)
- Obama’s $787 Billion Stimulus (Jan ’09)
- The Fed’s $300 billion Quantitative Easing Program (Mar ’09)
- The Fed buying $1.25 trillion in agency mortgage backed securities (Mar ’09-’10)
- The Fed buying $200 billion in agency debt (Mar ’09-’10)
- Cash for Clunkers I & II (July-August ’09)
And that’s a BRIEF recap (I’m sure I left something out).
Now, you can’t throw TRILLIONS of dollars around without damaging your country’s balance sheet (especially when the country already owed $9 trillion to begin with). So it’s no surprise that our creditors (China and Japan being the two largest) aren’t too pleased about the Feds profligate spending. As a consequence, they’ve all but stopped buying US debt (Treasuries).
Indeed, between 1Q09 and 2Q09, Foreign Holders of US debt reduced their purchases from $159 billion in 1Q09 to $101 billion in 2Q09 (a 40% DECREASE). If it weren’t for the Fed’s own purchases of Treasuries ($164 billion out of $339 billion), the US Treasury market would have almost assuredly had numerous failed auctions in the last six months.
In simple terms, China and Japan have made it clear in no uncertain terms that they want higher yields for them to start buying US debt again. And in order for yields to go higher… Treasuries have to FALL HARD.
The warning signs are already there…
When the Fed first announced its Quantitative Easing Program in March ’09, Treasuries began to a steep decline. They then bottomed out in June and have since begun moving in a well-defined trading range:
Remember, the Fed bought $164 billion worth of Treasuries between March ’09 and June ’09. And Treasuries STILL collapsed during that time. Looking at the above chart, one can only imagine what kind of COLLAPSE would have occurred if this support hadn’t been there.
With the Fed’s QE Program ending this week and Treasuries already moving rapidly towards the lower part of their trading range, it looks like we’re about to discover what the world REALLY thinks of US debt as an asset class.
Thus we are at a point of MAJOR historical significance. It is NOW literally a question of WHICH Crisis is next. Something HAS to give. And it could be either stocks, bonds, or both.
Crisis |
What Happens |
Implications |
Stock Crisis Pt 2 |
Stocks collapse, Treasuries/ Dollar rally, solvency issues take hold again |
China et al are still willing to buy US Debt just for safety’s sake with a low yield |
Currency Crisis |
Stocks rally, Dollar breaks support, Treasuries collapse, flight from Dollar intensifies/ massive inflation hits US |
China and friends call “BS” on Bernanke’s policies and kick the dollar to the curb, Fed is the only buyer of US debt |
US Crisis |
Stocks AND Bonds collapse, interest rates soar destroying US economy, ALL big banks implode, US financial system potentially shuts down |
Game, Set, Match for Bernanke and pals. Capital begins a full-fledged flight from US. US defaults on debt and loses economic superpower status |
I, and the rest of the financial world for that matter, do not know which of these will unfold. However, it’s quite possible we’re heading for Option #3 since no one but the Fed is buying Treasuries in any large amount.
Indeed, QE is about to end and Treasuries are already heading towards the bottom end of their trend line… at the exact same time that the Treasury is issuing another mega-load of debt: an astounding $180 billion this week, $116 billion of which is new debt.
- $29 Billion in 91 Day Bills, October 26
- $30 Billion in 182 Day Bills, October 26
- $7 Billion in 4.5 Year TIPS, October 26
- $44 Billion in 2 Year Notes, October 27
- $41 Billion in 5 Year Notes, October 28
- $31 Billion in 7 Year Notes, October 29
Look at the below chart again… Any decisive break below 115 on the 30-year bond leaves 105 as the next support. Below that the next major support is 90. At that point we’re getting into some REALLY serious trouble…
Thus, the question remains…
Are Treasuries About to Rally (stocks collapse) OR implode?
Buckle up, cause we’re about to find out.
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Swing by www.gainspainscapital.com/roundtwo.html to pick up a FREE copy today!
Good Investing!
Graham Summers
Graham Summers: Graham is Senior Market Strategist at OmniSans Research. He is co-editor of Gain, Pains, and Capital, OmniSans Research’s FREE daily e-letter covering the equity, commodity, currency, and real estate markets.
Graham also writes Private Wealth Advisory, a monthly investment advisory focusing on the most lucrative investment opportunities the financial markets have to offer. Graham understands the big picture from both a macro-economic and capital in/outflow perspective. He translates his understanding into finding trends and undervalued investment opportunities months before the markets catch on: the Private Wealth Advisory portfolio has outperformed the S&P 500 three of the last five years, including a 7% return in 2008 vs. a 37% loss for the S&P 500.
Previously, Graham worked as a Senior Financial Analyst covering global markets for several investment firms in the Mid-Atlantic region. He’s lived and performed research in Europe, Asia, the Middle East, and the United States.
© 2009 Copyright Graham Summers - All Rights Reserved
Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.
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