Two More Theories To Explain The "Treasury Bond Buying" Mystery

Tyler Durden's picture

With everyone and their mom confused at how bonds can rally when stocks (the ultimate arbiter of truthiness) are also positive, we have seen Deutsche confused (temporary technicals), Bloomberg confirm the shortage, and BofA blame the weather (for a lack of bond selling). Today, we have two more thoughtful and comprehensive perspectives from Gavekal's Louis-Vincent Gave (on why yields are so low) and Scotiabank's Guy Haselmann (on why they' stay that way).

Gavekal's Louis-Vincent Gave On Why Are Bond Yields So Low?

As long as men continue to age, they will probably complain that “things were better in their day” and that “the world is going to hell in a hand-basket”. Ignore for a moment that the proportion of undernourished people fell from 23% of the developing world in 1990-92 to under 15% in 2010-2012, that more than two billion people gained access to improved sources of drinking water in the past decade, and that never in history have so many people across the globe lived so comfortably—as far as financial markets are concerned, the ‘old-timers’ may have a point.

Indeed, anyone who started their financial career in the late 1990s has had to deal with the Asian Crisis, the Russian default and Long Term Capital Management failure, the Technology, Media, Telecom (TMT) bubble and collapse, the subprime bust and global financial crisis, the eurozone crisis and the past 12 months’ bond market taper tantrum and emerging market wobbles. In other words, there have been plenty of opportunities to catch the volatility on the wrong side. And these recurrent punches in the gut (combined with the recent violent rotation from growth stocks to value stocks or the fall in the renminbi), may explain why so many investors continue to seek the shelter of the long-dated treasuries, bunds and Japanese Government Bonds, despite these instruments apparent lack of value. Simply put, after almost two decades of repeated financial crisis, investors today do not have their forebears’ tolerance for pain. And so the old timers may be right: today’s young people are wimps, for both theoretical and practical reasons:

An inherent level of systemic risk? Most people intuitively feel Karl Popper’s observation that: “In an economic system, if the goal of the authorities is to reduce some particular risks, then the sum of all these suppressed risks will reappear one day through a massive increase in the systemic risk and this will happen because the future is unknowable”. In other words, suppress risk somewhere and it comes back with a vengeance to bite you on the derriere at some later date. Look at 2008 as an example: we cut up credit-issuing risk into tiny parcels and distributed it across the system through securitization, only to see the banks take on a lot more leverage and ultimately sink their balance sheets on instruments they failed to understand. Hyman Minsky summed up this inherent contradiction well when he stated that “stability breeds instability”. In other words, the more stable a thing is, the temptation rises to pile on leverage, which makes that “something” more unstable on the back end.


The notion of Anti-Fragile: the above brings us to the Nassim Taleb notion of “anti-fragile”: just as a parent who overly cocoons a child prepares that offspring poorly to function in the wider world, so policy-makers intent on cushioning the private sector from every shock in the economic cycle are a doing the overall system a massive disservice. By preventing the build-up of immunity, or the ability to thrive in crisis (i.e., anti-fragility), policymakers sow the seed for a greater crisis down the road (hence the repeated cycle of crises).


Lay the blame on zero interest-rate policy (ZIRP): following on the above, not only does ZIRP allow the survival of zombie companies (which drags down the returns for everyone) but it most certainly affects investors’ behavior. Firstly, by encouraging banks to play the yield curve and buy long bonds, rather than go out and lend. Secondly, because almost all investors hold part of their assets in equities and part in cash or fixed incomes. And in a world in which fixed income instruments yield close to nothing, the tolerance for pain in other asset classes probably diminishes all the more. Indeed, if an investor is guaranteed a 7% coupon on his fixed income portfolio, then a mild sell-off in equity markets can be easily dismissed. But drop the yield on the bond portfolio to 2.5% and all of a sudden, the slightest drop in equity markets risks pushing the overall returns of the total portfolio into the red... Unless, of course, one holds much more fixed income instruments than equities. Paradoxically, that growing population cohort which seeks a guaranteed level of annual income faces the perverse reality that low bond yields force an even greater allocation of their savings into bonds! And this quandary is further amplified by the last point.


The changing structure of savings: a generation ago, employees of large corporations would typically be enrolled in that company’s “defined benefits” pension plan. This meant that most salary-men, at least in the US, could look forward to a fixed monthly sum upon retirement, regardless of a) how long they lived for and b) what the market did. At that time, the overall behavior of financial markets was the concern of the pension fund’s managers who, if they were wise, could average up in bear markets and take some gains off the table when markets got hot; in other words, stomach the volatility of financial markets (backstopped by their companies’ long-term earning power) for the long-term benefit of their plan holders. But today, following the evolution of most pension plans away from “defined benefits” to “defined contribution”, the average pensioner’s relationship to his pension has been turned on its head. Today, the average saver receives a monthly statement explaining how much he has saved; and any dip in that amount triggers sentiments of panic and fears that a looming retirement may not be well provided for. Combine that fear with rises in healthcare and college costs (two costs that older folks have to worry about) that, over the past decade, have typically continued to outstrip inflation and any dip in the market is more likely to trigger a sentiment of panic, and rapid shift into bonds, then a willingness to ‘buy on the dip’ (see chart below).


Putting it all together, it seems hard to find one factor that explains the low level of yields. In our view, the ageing of our societies, ZIRP and the low level of rates, the shift from defined benefits to defined contributions, the activism of policy-makers (who, by attempting to cushion the volatility of the economic cycle more often than not end up increasing the volatility of financial markets down the road)... have all had a hand in keeping interest rates low. And if that is the case, then it will probably take a marked change in some of the above factor to trigger a significant rise in bond yields?

And Scotiabank's Guy Haselmann on why they'll stay that way... Long Treasuries March On

Low yield levels in global rates markets have perplexed many for much of the year. Most have expected US Treasury yields to rise as the economy rebounds from its winter hibernation. For the moment, the flattening of the curve and push to lower long end yields seems to be making Treasuries an ever-more unloved security class. Few envision any upside (in price). Yet, could there be information in the rally?

Positions matter. Most positions remain overweight equities, long credit and short duration, encouraged by 6 years of ZIRP and $4 trillion of QE. It feels like re-allocations are just beginning. A move back to benchmark weightings could have a material impact due to a lack of liquidity.

Are bonds currently telling us one thing and the level of equity indices another? Maybe they are telling us the same thing as the equity internals don’t look good.


In other words, UTY (Utilities) and XLP (consumer staples) - bond equivalents- are breaking out, while S5RETL (retail) and HGX (housing) seem to be rolling over.... Defensive stocks are outperforming.


Other causes for Treasury bid: QE reductions have reached the halfway point; the month of May begins the best seasonals of the year; the headwinds of China and Ukraine have ratcheted higher recently; and there is wide spreads to other sovereigns.

From now until October, markets have a good sense of what the Fed will do: end QE. And, Fed policy has been the key to market levels. I believe investor behavior has changed so markedly over the past several years that the investment environment over the next 6 months will be as simple as the following: QE encourages risk taking, so the end of QE will cause de-risking. It really is not, and has not, been about valuations (the price of money is too distorted).

While there have been some positional defensive rotations recently, the vast majority of portfolio exposures have yet to change. It is possible that they believe so completely in the Fed’s ability to engineer a return to normalcy that they will not re-calibrate positions from risk over-weights. However, it seems worrisome that bond market prices are suggesting great concerns on the horizons. Treasuries could be worried about deflationary forces and looking past the next few quarters (strong growth). They may fear, not just the impact of Fed policy normalization, but also a Chinese hard landing, and what they mean for 2015.

The Fed is in a quandary. If the economy begins to appear too strong, investors may begin to feel the Fed is ‘behind the curve’. There will be discussions about how the Fed has created another boom/bust cycle. (Jeremy Stein speaks tonight).


If the economy begins to weaken, then the Fed may lose credibility. With no bullets left, there will be discussions that Fed policy has become ineffective. Maybe the Fed requires a ‘Goldilock’s economy’ in order to not lose control of the market’s recalibration and reaction from its policy shift of ending QE.


I believe the FOMC would love to end QE immediately, but members have such great concerns regarding the market’s reaction toward the elimination of QE that they feel they must recede gradually.


Yesterday, the Fed had to pay above the market level in order to execute its buyback tranche (QE). Dealers may be having some difficulty finding Treasury securities that they are willing to sell to the Fed at market levels. In this regard, QE and the size of the Fed’s balance sheet may have reached their practical limits. The Fed has certainly been hoarding quite a bit of good collateral.

The story about corporate DB pensions drifting toward LDI continues to generate widespread market discussion. Even though this dynamic will play out over a very long period of time, it is causing some traders to question short positions in the long end. Many are trying to figure out the math behind the potential differentials between net demand and net supply compared to the existing float of available high quality long-dated fixed income securities. They are coming to the conclusion that demand exceeds the amount of secondary market securities outstanding. I remain a bond bull.

The curve is likely to flatten against the long end and long end yields are likely to remain under pressure. I maintain my targets for 5’s/30’s, 10’s/30’s and the 30 year yield at 100bps, 40bps, and sub 3.00%, respectively – by yearend.

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max2205's picture

This guy sounds like he knows what's going to happen. ...should I send him my money....fuck NO!


What ever he said.....

what's that smell's picture

twenty blind sell side analysts try to describe a porn star by the little bits they can squeeze between their fingers....

....let's get real; there are a zillion zillion zillion dollars all betting prices will rise....

it's built into capitalism (what the fuck is profit?), it's built into our DNA (baby seek cash), it's built into every bet EVER made on wall street

up good, down bad....all you bad boys down here in the zerohedge basement write it a thousand times...


the big boys buy, the crying girls sell.


Redneck Hippy's picture

Why are bond yields not rising?

The Japanese are printing money and buying bonds.

The Chinese are printing money and lending it to useless enterprises (even if they don't admit it).

The ECB is printing money (even though it doesn't admit.  How else to explain Italian bond yields?).

The Fed is still printing money and buying bonds, even if it is tapering.

Given the above, how the hell could bond yields rise?


Panafrican Funktron Robot's picture

Jesus fucking christ, it's not that hard to figure out.  

Currency created ----> bonds bid by primary dealers and flipped back to central banks (at a profit) or retained for tier 1 capital ----> central banks hold the bond asset as collateral vs. the created currency ----> primary dealers go apeshit with the created currency in the equity markets.

Even more simply:

Until I see a net reversal in the balance sheets of the major central banks, stocks AND bonds will remain a bid.  

Everybodys All American's picture

the main concern or issue to worry about is the dollar. How does this perform against the rest of the world as more and more debt is issued. Crash and burn the system at some point if they keep issuing more and more debt imo. Is that really their desire. Some say yes it is.

NotApplicable's picture

Looks to me like the rest of the world is doing their best to keep pace. Measuring the 'strength' of a currency relative only to other currencies is but a scam.

Reminds me of Bugs Bunny jumping off of a falling elevator an instant before it crashes into the ground.

CrashisOptimistic's picture

Except for the sticky problem that the PDs redeposited all that money they got selling bonds to the Fed back into the Fed as excess reserves.

daveO's picture

At .25% interest. Take that away and see what happens. It'd be interesting. 

knukles's picture

They're low and gonna stay lower because we're in a Liquidity Trap
I knew you could spell Japanese Model.

BrocilyBeef's picture

So, what does the Banker win this round?

Charles Nelson Reilly's picture

a nailgun... for use on any other bankers that *cough, cough* misbehave.

fonzannoon's picture

Schiff is going to need that nail gun pretty soon.

max2205's picture

Bond rates are a extra super dupper State Secret.....Eyes Only

BrocilyBeef's picture

Nailgun suicide? That's a pretty clear message.

CrashisOptimistic's picture

Here's the thing with those two analyses above.

Neither one can escape the buoyant economic growth narrative.  They contort and flail about trying to find a reason for bonds to soar and the yield to thus drop when there is explosive economic growth.

Well, MAYBE THERE ISN'T EXPLOSIVE ECONOMIC GROWTH.  Q1 will be substantially negative.  They aren't going to see 4% in Q2.  How in hell can you get explosive growth with $100 oil?

They absolutely can't work with that hypothesis, probably because they'll lose their jobs if they start saying things that drive clients to farmland.



Canadian Dirtlump's picture

In my view they are staying low because the shellgame of bond buying is in process whereby the fed "tapers" and some consortium of child molester in belgium ramp up buying to mask the fed's artificial demand by maintaining artificial demand in an opaque manner.


With belgium on pace to spend the equivalent of their GDP on US terlet paper and the process coinciding with Mr. Shalom's announcement of tapering you have the perfect crime. YOu'll even get people saying there is pent up demand for US paper no less.


Or something.

Everybodys All American's picture

Ask yourself how in the world if the Fed is tapering to the tune of 10 billion a month from 85 to now 45 that the demand stays the same or increases. Without some sort of fraud occuring this is virtually impossible especially when you consider the stock market has traded sideways. It's way out of the ordinary to see this happening for a reason and that is to keep this circus going one more day longer than it should seem possible.

CrashisOptimistic's picture

New issuance also shrank.  The level of demand also faces restrained supply.

fonzannoon's picture

Belgium is acting as a Primary Dealer. It's no big secret. 

Everybodys All American's picture

Ponzi buyer of last resort is more accurate. And who exactly is coming forward with the Euros? Answer the Fed and ding ding you are correct.

fonzannoon's picture

Explain foreign demand outside of Belgium. Even if it is the fed, which I don't think it is, even if the pensions and banks are just a front for the fed....who cares? I am not sure what your point is. 

Where is the proof that the world is dumping the dollar and UST's and rates will blow sky high?


Everybodys All American's picture

First of all every market is being manipulated. So making sense out of it is difficult and I never said the world is dumping anything.

Right at this very minute every currency is under siege. Therefore when all have weaknesses and the dollar can still be counted on over the yen for instance. If I'm in Japan I'd rather own dollars. The dollar is still trading near a 79 on the dixie which historically is at the low range and has been weakening for quite some time. It's all a matter of your perspective. Where it goes from here depends on a lot of factors including treasury issuance. Geo politics is especially problematic right now causing the treasuries to be well bid but you would think the dollar would strengthen yet it has not.

I've stated over and over US Treasuries catch a bid when global stock markets including our own get disrupted and I think the bond market is saying right now I'd rather own treasuries maybe anticipating a problem. People want treasuries but for no other reason than they generally know they'll get their money back in times of trouble as you know. In fact the yield on these treasuries will go much lower if the stock markets go into a bear market which I firmly believe that's where we are headed.

Who cares? No one whose in control of this madness. That's now though. Talk to me in a few years. That we can somehow violate every financial rule and there will be no consequence. Explain to me how this time it's different.

fonzannoon's picture

yeah I hear you, as usual we don't disagree. we all just sit here and continue to try to figure out the timeline on this mess.

russwinter's picture

No question that this goes beyond central bank buying. There has be a fraudulent capture of the money manager "profession."


Ghordius's picture

excellent article. fonz, re "Belgium is acting as a Primary Dealer"

all we know for sure is that the statistics of UST holdings have an entry called "Belgium". other explanations have been offered, including EuroNext

yet... it's not a Belgian statistic. and no, China is a PD, but Belgium? This would imply that the Belgian National Bank is doing it, outside of it's ECB "scope"

I repeat: who makes that statistical entry?

yatikto's picture

The FED cloned itself and opened a shop in Belgium.

Rainman's picture

Welcome to Japan, Goldilocks.  JGB10y @ .59

CrashisOptimistic's picture


When growth is shit, there is no loan demand.  You can't raise the price of things no one wants.

There is no reason for yields to climb with $100 oil destroying everything.

MillionDollarBoner_'s picture

There you go...trying to make logical sense of it.

There are no markets - there is only the FED.


kito's picture

or perhaps there are markets, which is why so many treasuries are being bought. the fed crowded out the market and left pent up demand for a very long time. i dont see it much more than that. those who thought taper would be the end just got smashed in the face with ben's cream pie. sentiment hasnt turned against the u.s. yet. its that simple. there are plenty of credit traders itching to get their hands on u.s. paper for now. with the world shaky, the u.s. market is still viewed as the most stable. 

Bay of Pigs's picture

You working for Scotiabank now kito?


kito's picture

no but sometimes the truth hurts. we here on zh also can be susceptible to group think. perhaps the simplest answer is the correct one. markets have been crowded out of "quality" paper and collateral for so long that everybody has jumped in now that the fed has tapered. the treasury market has been the biggest and perceived to be the best for quite a long time. and that perception remains for now. 

fonzannoon's picture

Yes yes all correct. in other words... IT'S STOCK, NOT FLOW.

with that said the further the yields on the long bond drop the more equities will implode. someone will have to step in. whether it's fiscal policy somehow or the fed doing something to spark velocity. so the key takeway is there is not a lot of time to get your hands on Argentenian bonds.  

kito's picture

yes you seem to be right, which brings me back to my point about groupthink. we have been listening to tyler (who of course has been very helpful throughout the years) hammer the point about flow, not stock--taking it as gospel, and BAM!!! tyler had it backwards and we are all sitting here stunned to see treasuries selling like maseratis.....

fonzannoon's picture

i'm not right. i had no clue. some guy that got thrown off here that never had the chance to make the case is the one who knew. 

no disrespect to Tyler. I still agree with most of the stuff posted on here. but it is what it is with this one. enough of the foreigners are dumping our treasuries and other stuff like that. it was wrong.

kito's picture

wait....china isnt dumping our treasuries? russia? what!!!!!??????

Everybodys All American's picture

Belgium is the new world power. Haven't you heard.

max2205's picture

I am sure that empty Mall's loan is pretty good quality paper....whatever! 

Bay of Pigs's picture

Correct. The William Dudley sees to it that nobody steps out of line on that issue. He is chairman of the Committee on the Global Financial System of the Bank for International Settlements (BIS).

The CB's are on the same page supporting the current system. If they weren't, the collapse would have happened long ago.

TimmyM's picture

If taper = global risk off, net taper supply < flight to safety bid. OK?

Bay of Pigs's picture

I was just teasing you pal.

Yes, MOPE is alive and well. This circle jerk Ponzi will go on until it can't.

CrashisOptimistic's picture

Except that isn't the simplest answer.

New issuance is scarce.  Growth is shit.  Bonds do well when growth is shit.


kito's picture

sure it is. you just said it. the plummeting deficit leaves much less issuance and the markets are fighting for what the fed is no longer taking. the markets are more than making up for any slack by the fed. this isnt hard........

ebworthen's picture

Reading this gave me the strange urge to watch some "Fat Albert" re-runs.

Lying Part 1:

Cacete de Ouro's picture

Hmmm, I thought it was because the Fed and Treasury keep gold prices low that they can control the bond market and interest rates (Gibson's Paradox), or am I wrong?