On Sub-Zero and Decoupling

Bruce Krasting's picture


On the IOER and Hilsenrath


Bernanke has to do something this week. Most pundits are suggesting it will be more LSAPs (QE). I have trouble with this scenario. To be of any benefit, a new QE would have to be for $600Bn. If QE3 were to be only a paltry $200Bn, it would be received very poorly. I don't see Ben shooting off a pop-gun this week. He would be better off doing nothing, than something that will fall flat. I think he knows that.

There is also the issue that there is no justification for more QE right now. We are not in an emergency, stocks are at four year highs and there really are negatives to a policy of perpetual ZIRP. Also, a big splashy QE would be perceived as being very Pro-Obama. Taking sides in a national election is not something the Fed really wants to do. Republicans tend to have very long memories.

Extending the ZIRP language for another few years is idiotic. It is a promise that can't and won't be met. It also has zero value to the current economy. Extending the language is a ho-hummer that will accomplish nothing other than to demonstrate that the Fed is out of arrows.

That gets us to changes in the overnight deposit rate (IOER). Currently at a 1/4%, it could be cut in half to 1/8. This seemingly insignificant change would actually have profound effects. I wrote about this recently (Link), but much more importantly, so did Jon Hilsenrath of the Wall Street Journal. His thoughts from Friday night on the IOER (Link):

Another possibility, which is more controversial internally and might not happen, is a small reduction in the 0.25% interest rate that the Fed pays banks for reserves held at the central bank.

If you believe (as I do) that Jon's words are scripted by Bernanke, you could read through this sentence and conclude:

A) Ben has told Jon that a cut in the IOER will be discussed and voted on next week.

B) The words "small reduction" is new to me in this context. The discussions to date have been that the IOER might be cut to "0", rather than something in the middle.

C) There is opposition to this step from at least two voting members. While Bernanke has the votes to do as he pleases, he wants there to be a consensus of opinion that includes only one dissenter. (This about the "Optics")

D) Ben is pushing for this. He wants to prove he has more arrows. He does not want to confront Republicans with a major QE at this time. But he has to do "something", the IOER might be it.

E) The words, "might not happen", could also be read as "might happen". A cut in the IOER is (at least) 50-50 if you read through Jon's words.

Three and six month T-Bills are now .10 and .13 respectively. Post an 1/8th cut in the IOER they would be -.03bp and 0.00bp. Does that matter? I think it would be a very big deal indeed.




On FX, Equities and Bonds


My most recent efforts in FX have led to a loss. I had a bear spread on the EURUSD with the near leg at 1.2350. That went off the sheets last week, option premium went out the door.

I don't dwell on losses. They are part of the game. But I do try to evaluate why I am wrong in an effort to avoid the same mistake again. In this particular trade I completely missed the market sentiment that Draghi's plan has created.

I didn't believe that Draghi could ever say the words, "Unlimited Intervention". But he did, and I'm the poorer for it. I'm as certain that I can be that Draghi has made a promise that he can't deliver on, but for the time being, he seems to have the upper hand.

Don't shed too many tears for me, the past month has been one of my best in the equity market for years. The hedge funds I invest with have done very well. But of course that is all paper, and the future is uncertain.

I spoke with a guy who runs a fund (with a couple of bucks of mine) this weekend. He was happy as can be. His fund's performance has past the upside mark, so he's getting a free 20% of any additional gains. Like all equity guys, he's bullish for the rest of the year. His thinking is that common stocks of companies with good balance sheets, positive cash flow, and buying back stock have much more upside to them. Google at 800+ is in the cards, according to him.

He made one interesting observation. He believes that equity prices have decoupled from the business cycle. Stocks can do well when the broad economy is struggling and government financing is in ruin.

That sounds crazy to me. But it is exactly the status quo today. Stocks are at four year highs, while government financing (globally) is in the toilet, and about to be flushed. His justification for the optimistic outlook for equities was:

Who in their right mind would buy any government bonds today?

We shall see if the decoupling of stocks and the broad economy/public sector financing continues, but you can't ague with what the guy says. Bernanke and the other central banks have converted the debt market into a very unlovable asset class. There is no return on the bonds; there is credit and yield risk. Bonds are a total downside story at this point.



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humblepie's picture

Before October 2008, zero interest was paid on overnight reserve deposits.


humblepie's picture

Before October 2008, zero interest was paid on overnight reserve deposits.





SAT 800's picture

"Who in their right mind---" Well, right minds have kind of gone out of style nowadays. Right minds are produced by education; which includes such things as Plane Geometry, foreigh language, English grammar and sentence structure, and basic math. There are plenty of warm bodies who make decisions based on what the other warm bodies on their favorite Web Site "believe"; but right minds; not so much.

mharry's picture

F the people, it's all about Wall Street, the Banksters and Government. Who cares about the people? What do they do, pay taxes? Ignore that outside pressure on your ass, it's just them reaching in to rip out your guts.

MrPalladium's picture

The Fed has doomed the U.S. Govt. If the Fed stops buying bonds then rates rocket up driving the deficit up.

The Fed cannot stop buying bonds until Congress balances the budget, and the pain inflicted by such a balancing would crash the system so it won't happen.

Perhaps the Fed keeps loading up on the 10s and 30s because there has to be someone to take the losses once rates start to rise, and the "money printing" that takes place as bonds held by the fed fall in value (thereby cutting their ability to "mop up" the money previously created to buy the bonds) will have a stimulative effect. Of course, the Fed can never sell its 10s and 30s because to do so would only drive rates higher.

The only way out is to inflate the 10s and 30s into oblivion once the Fed owns them. The government cannot benefit from inflation unless most of its debt is at the long end of the curve. During the process, the Fed can keep printing and purchasing more bonds to keep the value of its portfolio constant. Hard to believe that the big international holders like China fail to see what is coming and get out before the process of repudiation through inflation begins.

Operation twist is such an obvious set up which seems, miraculously, to deceive the bond holders into believing that the Fed, as holder of the bonds, will have a stake in maintaining their value when, in fact, its purpose is to have those bonds become near worthless as a means of stimulating the economy and keeping the U.S Govt. solvent.

JohnKozac's picture

Bruce, the recent substantial uptick in PMs supports your article. Something BIG may be about to happen in bonds --vigilante? I don't know but looks like lots of money moved this week to safer havens away from bonds.


John Williams at Shadow Stats said awhile back that silver may rise to $200 (or higher) as a reflection of loss of purchasing power of the dollar. I wonder if he thought about disintermediation out of bonds as a factor also?

singsing's picture

All that matters are successful treasury auctions at low yields.  What ever the announcement may be, it will be engineered to achieve this end.  This isn't about the economy, Wall Street or any number of posited reasons.  It is solely a government bail-out and face saving program. 

XtraBullish's picture

Biderman is getting BBQ'd like the rest of you whiney, snivelling bears. Stocks are a better bet than USd's because the policy-makers are at least trying to support stocks but they are debasing cash (USD's) so by owning/buying stocks, you are shorting the USD - shorting cash - which is a no-brainer. Deflation is what we have been living with Case-Schiller since 2007 and now it is time for IN-flation (rising Case Schiller) which is what Bennie & Co. want. NEVER underestimate the replacement power of stocks within a HYPERinflationary spiral.

And buy some physical gold/silver while you are at it (like I have been doing since 2003).

Short Biderman, too.

jim249's picture

because the policy-makers are at least trying to support stocks


So when do they pull the rug out? Are you going to be fast enough to liquidate?

Freddie's picture

Mugabe and hyper inflation supported Zimbabwe's stocks as the money became worthless.

The Alarmist's picture

Who would buy government bonds?  Instutions that have to bow to the fiduciary gods and keep some holdings in "prudent" and/or liability matching investments. 

defencev's picture

 This is an idiotic question. Everybody who buys term deposits, actually buys bonds. Let me just give you a simple investment advise (judging from your pathetic blog , you really need one). Do not trade currencies. It is just a Russian roulette, especially if one needs to take into consideration what central bankers do or would not do. My own approach is to keep a part of my savings in a variety of currencies. There is no leveraging involved and it is much less risky. The currency exchange rates are much less volitile that stock markets and one can pick up the yield if careful enough. One of my favorite is Malaysian ringit. It correlates very well with Singapore Dollar (or rather the other way around) and hence has a pretty much stable exchange rate vrs US Dollar (in the range 3-3.20 ringit per US Dollar). The short-term 3 month CD will yield 3 percent (and even slightly more if one goes for islamic bonds). The yield premium versus Sing Dollar (which would yield  almost zero for the same term) because Malaysian ringit has a history of capital controls. But, of course, nothing is for free.

saturn's picture

I would add Draghi, but his mind isn't right.

Element's picture



"Bernanke has to do something this week."


Gezzus! ... I thought the zh 'consensus' last week was derbanke would do nothing soon?

One jobs report and now everything's in play again?


... mkay.


Because that would so change the underlaying dynamics ... if he did "something"?

That blue pill looks better and better some days ... just sayin

Freegolder's picture

I think that hedge fund guys saying things like this, and Bruce seeing only downside for Govt bonds, is a good sign that the top is near for equities, and 10-years will be heading down towards/below 1% within the next 6 months.

Equities never decouple from the business cycle, that's sell-side BS.


SAT 800's picture

Equities never decouple from the business cycle, that's sell-side BS.---- Do you make up these pearls of wisdom yourself?

russwinter's picture

A cut in overnight reserve deposit rates would finish off money market funds for good. With rates cut to zero at banks, you might also see a bank run as people take cash out.

Stashing money in a high risk, zero rate environment:


Fed Twisted into a Knot


DeadFred's picture

Biderman is always talking about how it takes an influx of money to make the market go up. The 1%ers are getting a bigger slice of the pie and they are the ones who invest most in stocks. This could be one reason we see a decoupling from what was 'reality'. I wonder what other realities will be decoupled as well. Will the 1% funds buy and hold like the small fry did or will we see faster and steeper plunges when things turn south? I don't know the differences in market psychology between classes but in my experience when one wierd change happens others come along with it. It might pay to scratch our heads about what those other changes might be.

FleaMarketPete's picture

"He believes that equity prices have decoupled from the business cycle. Stocks can do well when the broad economy is struggling and government financing is in ruin."


This sounds just like "revenue isn't important; this is the new 'Dot-com Economy'!", “the principle risk is removed through the securitization process!", and "Japanese equities will be more resilient in a downturn because their equity market is already depressed!"


AurorusBorealus's picture

I can tell you that all of the retail investors whom I know are moving from bonds into equities on the advice of their financial advisor, who are citing concerns over the subordinate position bond-holders have been placed in recently (i.e. Greece, GM).  Many of these folk are at or near retirement age, and they are moving from bonds into equities for "safety."  The bonds that they are moving out of: mostly municipal bonds.  Take want you may from this small anecdotal evidence, but problems may well lie ahead for bond markets: corporate, municipal, and sovereign.  The higher equities go, the more trouble looms in the bond market... at least that is my take.

SAT 800's picture

That's hilarious, and nausea making, of course. "equitys for safety"; hmmm. kinda spinny, maybe it could replace Merrill Lynch's "Merrill Lynch is Bullish on America:" advertizing campaign; I used to laugh at that one every week.

Papasmurf's picture

As we all know, the retail investor always gets it right.

Fecklesslackey's picture

California Muni Bonds ETF CXA near all time high ... up 255 since Jan 2011. Nationally MUB is also near all time high up 16% since Jan 2011 ... go figure

SAT 800's picture

Frightened money, with very, very, low grade advisers. What happens after things get to toppish prices is they go down.

duckhook's picture

Buying bonds is like playing musical chairs .As long as the there is confidence that the Fed will be buying and that there is no currency crisis ,bonds could rally and the music could keep playing.But the fundamentals for buying bonds at these yields does not exist.Current real yield are negative  -.68 for the 10 year and negative - .02 for the 20 year.Anyone holding bonds for the duration is flushing money down the toilet.Even Japan with lower nominal rates has positive real yields and the only way for the US to have lower nominal yields and positve real yields is for the US to go into  a decade  long period of deflation .Such a period would bring de facto default into the picture as the US deficit would soar much higher than even the most pessimistic projections.So the game that bond buyers are playing is that they think thay can lay their bonds off on some other sucker.then that sucker thinks they could do the same .But ultimately over the course of the bond the real yield is going to negative.Sure you might make money trading bonds,but in doing so ,you are ignorant of the fact that the music is going to stop playing sometime .Your hope is that you can get your seat(sell your bonds ) before everyone else and everyone else is hoping to do the same.

I have  a question for everyone .What would happen to bond prices if the Fed said that QE is done for good and that they would be a seller instead of a buyer.Yields could go up 5% in a couple of months .They have gone up almost that much in the past. Overall,bonds have no fundamental value at these levels and are truly the definition of return free risk.Just like playing the slot machine,you might be a winner buying bonds ,but if you play long enough ,you are a guaranteed loser.Seliing bonds at these levels represent the best risk/reward trade  of our lifetimes 




andrewp111's picture

The Fed buys Treasuries and MBS, but are they going to buy Munis?? I don't think so.

Roger Knights's picture

"Bernanke has to do something this week."

That reminds me of Sir Humphrey Appleby:

"We must do something. This is something. Therefore we must do it."

Stanley Lord's picture

Bonds can go to a negative yield like in Switzerland now.

0% on the 10 Year is not out of the question.

as crazy as that sounds.

duckhook's picture

Neagtive yields in  Europe are purely a currency play ,where the bet is that the Euro  will fall apart and Switzerland will be forced from its currency peg.

saturn's picture

What do they peg next? Mexican pesso or Russian rubble? Italian lira might work..

Iam_Silverman's picture

"Russian rubble"

I wouldn't call their currency a total wreck.  Sometimes they show more fiscal restraint than many others (i.e. U$D, Euro).  I think they have gotten their house in order since the grim days of '98.

q99x2's picture

The argument with the guy I would have (maybe) if I researched it is:

If you remove the HFT volume from the market and compare the remaining volume to the past when bond money was flowing into equaties would it still be a reason for stocks to be climbing? Or is the price discovery by algos the real reason behind the recent (since 12/01/1011) climb in equity indexes?

If the algos of HFT are the reason behind the rise then there is no fundamental support.

SAT 800's picture

This is my thesis; also I believe they have recently attracted some public money into the game. I'm short the S&P right now.

fourchan's picture

There is no fundamental support.

max2205's picture

I don't see any positive reaction to anything Ben will do next week, especially a 50% cut to interest to bank deposits.

The broad market is up huge on front running untested promises of CB actions not yet implemented .

WS has drunk too much again.

The tears will flow.

Oh and have the banks returned to MM accounting yet?

Iam_Silverman's picture

"Oh and have the banks returned to MM accounting yet?"

MARK to MAGIC?  Yup, they're fluffing their books now.

"especially a 50% cut to interest to bank deposits. "

I agree, this may only be a small trickle of heroin to the addict, but every gram is needed to feed their "itch".  The smaller the packet of aid to the TBTF banks, the easier it is to keep from the eyes of the curious.

Northeaster's picture

"there really are negatives to a policy of perpetual ZIRP" -

Maybe I'm missing something, no wait, I'm not, ZIRP sucks. Why? I have cash and no place to put it without risk of it being stolen, "rehypothecated", or just stuffing my mattress earning nothing.

dougngen's picture

Sure you do.... buy stuff, land, bullets gold

THE DORK OF CORK's picture

The global imbalances are simply too large.

This is really a crisis of National national sovereignty which results in crazy domestic demand swings & malinvestment as a result of all powerful international capital movements.

Has there ever been such a period ?

Where capital overpowers rational trade to such a extent ?

This is a very sick world Bruce.

Irish trade figures

Y1990 Imports : 15.832 Billion             Exports  : 18.204 Billion           Surplus 2.372 Billion

Y2011 Imports : 48.262 Billion            Exports : 91.745 Billion             Surplus 43.483 Billion


The Local Irish elite claim the Irish are less corrupt then the Greeks and their shipping connections......

Look at the above trade surplus........

This is a crime wave.

There has never been such a time in my opinion....where countries are forced to engage in gaming simply because treasuries cannot print.

The scale of this is hard to grasp for me.

 What is rational demand when you have so much credit and so little money ?

The market state has destroyed the nation state ....soon it will destroy civilisation.

TruthInSunshine's picture



"Who in their right mind would buy any government bonds today?"


Ben Bernanke.  And A LOT of them.

Then again, he does have the fractional reserve fiat "electronic printing press" at his disposal, where the money is literally for nothin' & the chicks are free.

“The U.S. government has a technology, called a printing press (or today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at no cost.”

– Nov. 21, 2002

Say What? 30 Ben Bernanke Quotes That Are So Stupid That You Won't Know Whether To Laugh Or Cry

BurningFuld's picture

I know what he "could" do this coming week.. dis-mantel a couple or large insolvent Banks and then next week, why he could do it again..and then the following week.....why not just do it again. And as for the managing boards of those banks he could seize all of their personal assets and then like a year from now the clouds would part and the sun would come out once again.

TruthInSunshine's picture

That would be the first logical, fair & effective measure to restore true confidence in the banking system and return it to a model whereby alleged free market participants had to live and die by the wisdom and soundness (or lack thereof) of their decisions.

Ergo, it's something that The Bernank not only would never do, it's literally outside his envelope of comprehension.

Iam_Silverman's picture

"Ergo, it's something that The Bernank not only would never do"

Unless it stands to benefit Goldman Sachs.  Lehman Brothers anyone?

Deep79's picture

"there is no return on bonds"

What the hell you talking about, you think people are buying bonds for yield, look at the capital appreciation. As long as fed is buying they will rally.

Bam_Man's picture

What is the maximum possible capital appreciation on a 10-year UST bought at origination with a 1.65% coupon? Go ahead, do the math.

Beuhller? Beuhller? Anybody?

Schmuck Raker's picture

With ZIRP, I don't know. That's my ignorance, oh well.

With NIRP, maybe I'm not the only one?

duckhook's picture

if the 10  year went up  6 points ,the yield would be 1.01,.if it went to 110 the yield would be .61

Bam_Man's picture

Thank you.

Up 10 points, with the coupon of 1.65% gives you an annual return of 2.65% over the life of the bond.

Now if you are lucky enough to capture the 10 points in lets say two years and then sell the bond to a greater fool, you are looking at a whopping 6.65% annual return.

That is the best case scenario for today's investor. Worst case? You don't even want to think about it.

Bruce Krasting's picture

Well, the five year is now 64bp. the seven year at 1.07bp.

If you think there is a lot of cap gain on those yields, I wish you luck. All I see is downside in those prices.

Eireann go Brach's picture

Bruce where do you see the 10 year going over the next 6 months?