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The Start Of Something Bigger In The Bond Market?
From Nic Lenoir Of ICAP
A combination of Fed front-running and perspectives of a more fiscally conservative Federal government (including the ever so independent Federal Reserve Bank) has had the bond market on the backfoot the past few days with a lot of stops being run through. As we discussed last week, how the market digests the actual liquidity injections by the Fed and the buybacks is what will drive all other asset markets. Indeed liquidity injections by central banks has been the sole driver of asset prices with the shadow credit markets contracting.
Don't judge a book by its cover though. The fact that Fixed Income markets have been selling off ever since QE 2.0 started is mainly a matter of positioning going into it more than a market rejection of the Fed's policy. Yes there was quite a bit of (expected) backlash by the international community which suffers from a competitive disadvantage for the most part if the USD is too weak, and yes there has also been some dissenters within the Fed and Washington more broadly. However it was to be expected that the size of the program would be left to possible change based on data (pretty much every Fed decision always comes with that caveat anyways) which can mean both less or more. The fact Mr. Bullard questioned whether the whole $600Bn is needed is part of that conversation, but the weak PPI and Empire Manufacturing surveys released this weak imply that whatever Bullard says won't matter until we see better numbers. In the same line of thought, a little bit of complaining by Europeans about the Fed's policy is not about to make Mr. Bernanke rethink his religious-like beliefs in the marvels of monetary stimulus. Since our academicians had enough self-sufficiency's to criticize the Bank of Japan for the last 15 years, one can expect they are not sleepless over a few comments from the ECB (run by Jean-Claude Trichet who happens to be him too an imbecile, making it easier to shrug off!).
In terms of whether this move is done, I personally don't think it is. There has not been enough panic yet. If the 10Y future re-tested the 122-30 support and the 5Y future the 118-30 level, the market would have essentially retraced the entire pre-Fed move driven by QE expectations. In that sense I feel it is fairly likely that respecting Murphy's law we will go test those levels. By the same token, I do not believe possible for the bond market to sell-off much beyond that in the present state of affairs. If anything talks of balancing the budget and a smaller than expected QE 2.0 program will lead to a more sluggish economy which would certainly reinforce structural deflationary forces and push yields lower eventually as it also alleviates flight away from bonds on solvency/rating concerns. So really until fiscally conservative measures are tested and appear to be failing I don't think we can have a Fixed Income sell-off lasting beyond position squaring. If we follow the Greek tragedy's storyline: a) Market realizes public finance are a complete joke b) a fiscal resolution is attempted c) the fiscal solution fails as the slowing economy choked by austerity lowers revenues and offsets benefits of entitlement cuts. Note that b) and c) should occur in several iterations until entitlement cuts are no longer tolerated and the country is forced to resort to default. We haven't even tried one yet, so pace yourself, and remember that higher yields in Fixed Income creates risk averse sell-offs in other asset classes which in turn create demand for US bonds as money seeks a safe heaven. That status of safe heaven is not just yet abandoned, even though it will be eventually.
So short-term, I expect bounces in Fixed Income to be short-lived until we reach the aforementioned levels. During that time period risky assets should be under pressure. The trend following indicator using the 5-dma open vs. close has resolutely turned, and today for the first time in 3 months the S&P future has broken through the mid-bollinger band, indicating that bounces towards 1,193 should be sold. After that, whether it's risk aversion driving yields lower or the Fed driving yields lower in turn spurring risk appetite remains to be seen.
In the path to default above I omitted the "bail-out" iteration which comes along with an attempted fiscal resolution of the matter as it is only relevant for smaller peripheral economies. When we get to more sizeable bankrupt entities that step will have to be skipped. Ireland finds itself close to that intermediary bonus-bailout stage on its way to default. Part of the issue is that even though Ireland's budget is pre-financed until mid 2011, this has been made possible because Irish banks have bought the sovereign Irish issuances and pledged them in turn to one of the ECB's liquidity facilities. While Germany is perceived as the main player pushing for a bail-out package, it is in fact apparently the ECB which is most pressing on the issue. Indeed the funding scheme used by Ireland via Irish banks pretty much ties the ECB to extend its liquidity facilities until mid 2011. However just for a laugh I would recommend the ECB looks into who has been buying at Spanish auctions. How do you spell cajas again? Could it be that Spanish banks have been buying Spanish bonds and financing them via the ECB liquidity facilities? If messing around can seem like good fun and games when the patient is Ireland which is a small fraction of the European economy, Spain with more real estate inventory than the US (not relative, in absolute number of cases) will probably prove a bit more painful. That's certainly another motivation for Germany and the ECB to push exploring quickly a miniature bail-out and hope the effects are rather soothing on the rest of the PIIGS so they don't have to deal with problems of bigger magnitude. But even such foolish calculation will only buy them a few months. As I have long contended: they are done, the Euro in its present form is unsustainable, and the road to disbanding this wonderful currency will be long and painful as an entire generation of economically moronic politicians struggle to abandon its baby and attempts all sorts of magic to delay the inevitable outcome.
I apologize that I could not add any charts: I am using BBG anywhere and I do not have a set-up allowing to save and send charts, but I promise to make up for it tomorrow!
Good luck trading,
Nic
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That's right, and the other sacrilege, Krugman, is screaming into Bernanke's ear, "Give them more Ben, more! screw easing, grab a shoehorn and just put it in, damn it!"
The fact that US bond prices have lowered was needed for Bernanke to scoop them up "cheaply". At least that was most likely the plan. I am not sure any plan he has will work longer than a few months. Swapping etfs with Shirakawa during sleepovers at Alan Greenspan's Jekyll Island penthouse is so last month. with real estate about to blow up due to robo-robbers, Bernanke may be eying MUNIs. To keep this charade going he has thrown his tungsten into the fire.
Bernenake is throwing (selling or rather leasing) "gold" into the bonfire of the vanities, along with real estate. The IMF/world Bank will accept the "gold" as collateral, but the RE not so much. Gold does not burn to ashes, as houses tend to. The MBS crisis should look to devastate the banks, how the Fed can manage this no one knows, because it is more than likely that it will not be mitigated. Real estate looks to be the next tungsten cow sacrificed at the economic alter, along with Bernanke's and for that matter all Keynesian policy and credibility. The deflation that will be churned by the burning buildings and other estates will be massive, but with FIAT on fire, will it match the inflationary head winds? The inflation/deflation debate rages, and it will end in total collapse of the current system.
OK--when?
At 3:18pm EST
Merci...
Are the ECB liquidity facilities really being used by banks to fund their government's spending? That sounds ponzi-esque.
How long until the bond market forces Ireland into a bailout? My guess is we get another Sunday night emergency meeting.
Is the Federal Reserve really printing dollars to fund the spending of the United States government?
Does a toy horse have a wooden dick? Do bears shit in the woods?
1. yes
2. i hope not
3. yes!
i am surprised that the "responsible" EU nations allow that to occur.
Dont be so surprised. The big part of the PIGS debt is from the banks of the "responsable" part of the EU. So there are two options:
1) Default. The euro stays strong but the banks loose big time.
2) Financiation via "silent" inflation of the ECB. The euro depreciates and the citizens pay the bill.
Which one do you think its going to be? The only thing is that Germany and the ECB is going to play it like its being tough and all to keep their population happy, but at the end they are going to inflate like everybody else.
" Default. The euro stays strong but the banks loose big time"
Hugo, I don't think the two are mutually exclusive.
The Euro will go the way of the banks. In fact, who/what is the bank is a question, right? In today's world, they are mere extension of the local CB.
Ergo, up or down together.
ORI
http://aadivaahan.wordpress.com
Which ones are they? Because it appears they've gone missing...
Does a Trojan Horse wear a condom on his wooden wanger to ward off SIVs?
TD talked about the amazing Michael Steinhardt interview on Faber's "Strategy Session" relative to GM. What wasn't mentioned was him saying "i'm shorting the 2 year treasury." Amazing indeed. This is a direct "you ain't got shit" to Ben Bernanke. That would be "OUR Fed President." Talk about a "gut shot." I also found TD's post relative to "our Fed standing by while Ireland..." very...well..."imaginative" i guess is the word i'm looking for. Clearly "big news day tomorrow." Perhaps CNBC will go "full on power puff girl" to "fill us with pre-turkey day Christmas presents..."????!! Bloomberg simply rocked yesterday.
Agree with the idea that a major Treasury sell off will be averted by the cavalry. However the bid will be weakening and the Fed's calculus is flawed. Call it the "Ponzi-revolt" as investors perceive Treasury alternatives as more and more alluring and the Fed's salvage operations as increasingly risky. Yield-chasing has gone global with the marketplace versus Treasuries getting quite competitive. Yuan bonds for example offer double- triple yield multiples while CDS spreads to Treasuries have tightened. Look for the trend to continue as Treasury risk premium is paradoxically being raised by QE2 and the fear of QE3 and other follies.
If I caught your drift in the first few sentances and the bond market is not likely to sell off much more then that is probably corroborated by the narrow price range on the AUD/JPY.
Just out of curiosity; do you ever respond to comments? You write nice stuff, but come across as aloof.
No shit! Great comments, no follow-ups! I actually read all his comments but like you said, this individual likes to keep it short...
Nic works at ICAP (mainly I-D broking) and, although he might visit ZH from time to time, i doubt he reads the comments and theres no way he'd have time to respond.
> "Spain with more real estate inventory than the US (not relative, in absolute number of cases) will probably prove a bit more painful."
Nic, is this true? Do you have a source for that statistic? It seems extraordinarily hard to believe. "Relative" to population / GDP I could believe. But "Not relative?". What??
Popo, not sure about that stat in particular but i spent a few weeks travelling around spain this summer and there is half finished apartment buildings with grass growing up around the foundations on the out skirts of every town.
I also heard that spain has some of the most expensive real estate in the southern part of the eu as they have 50 year mortgages which pushed out the real estate boom. Lots of spaniards near the border live in france instead as it property is cheaper.
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The whip-sawing between increasingly diluted but "safe (er)" dollars and the more "risky" equities may be cranking up a notch here...
http://www.321gold.com/editorials/thomson_s/thomson_s_111610.html
So really until fiscally conservative measures are tested and appear to be failing I don't think we can have a Fixed Income sell-off lasting beyond position squaring.
Yes indeed. Still some nice churn though. Nice analysis Nic.
Hindenberg Omen anyone? The EMAs that the Hindenburg uses have crossed today. Just starting the downtrend.
Yeah--that HO turned out to be real barnburner, didn't it...
More like "shortburner"
FT Alpha Blog - mentions that Irish Debt margin requirements raised:
http://1.bp.blogspot.com/_boO_BV8n9ko/TOOv2376w0I/AAAAAAAAITw/_fccf__cj-Y/s1600/3md.JPG
The reason banks will not lend is because rates are to low, only when high rates appear much higher will banks be ready to lend again-stupid up true. China, Brazil, Australia, are rising rates..high yielders Ireland, Spain, and Greece...will rackup capital, as people chase yield,,look at Mexico's 6% paper got..including Goldman's and Norfolk Southern...The US will need to raise rates to fund their capital needs period..
Thanks Nick I enjoy and value your updates. Today's is along the lines of something else I was reading on the subject of the post-QE2 environment. As according to notayesmanseconomics.
"So there you have it as we stand if you measure events since the FOMC’s statement we have a higher dollar,higher long-term interest rates and a lower US equity market! We have pretty much exactly the reverse of expectations and not the result that the FOMC was looking for."
It is people like you and him who analyse what is happening rather than using pre-conceived and often wrong assumptions that I find most valuable.
http://notayesmanseconomics.wordpress.com
The new UK Banking Reform Bill introduced to Parliament by Douglas Carswell MP - http://www.publications.parliament.uk/pa/cm201011/cmbills/071/2011071.pdf
More on Carswell's blog here - http://www.talkcarswell.com/show.aspx?id=1672
Any thoughts or comments?
Hilarious!!!!!
http://www.youtube.com/watch?v=Yjr7NtntWeQ&feature=youtube_gdata_player
I enjoy Nic's thoughts, but FWIW, i disagree with this. Simply too much is at stake to totally abandon the EUR. Ever since the 50s when the whole EU starting taking place, the single currency has long been a dream for most of Europe, and the politicians will do everything and anything they can to ensure its survival.
Devaluation, perhaps a new normal (aka < USD) for a long time, but certainly not total abandon of the currency.
I consider it nothing less than heartwarming watching Germany dine on bailout just desserts. They thought they were going to impose monetary discipline upon others when founding the EU? hahahahahaha! Fork it over Germany!
@buzzsaw99 Agreed - the problem is not only in different monetary policy needed, but the fact that the cultures are totally hetergenous not only inside the countries, but especially as defined by national borders. You can't expect a carefree Spaniard or Italian to be as strict as German or Pole. My point isn't to stereotype, but simply to emphasize differences do exist whether we support this 'one entity, 27 countries' idea or not.
Uh, homogenious?