Fed Treasury Purchases Over / Carry Trade On
A: The fed's debt monetization experiment was a two pronged monster: buying tons of agency debt + $300bln of treasury securities. So far the huge supply of treasury auctions is not affecting the market at all. In fact, bid to cover ratios for the most recent 5-yr auction was 2.63 compared to the average of 2.35 for the prior 4 auctions. With $123Bln in auctions this week so far, more than $370Bln in bids were submitted; big time oversubscribed. Now the fed is no longer buying treasury securities, but will continue to buy agency debt albeit at a slower pace heading into the first half of 2010. One aspect of the quantitative easing program is now done with, for now. In the meantime, a big time positive carry trade continues as the fed stands behind everything.
Don't be surprised to see the fed revive the treasury purchase program in 2010 or later should the bond market have a disruption or future auctions don't go as well as they have been recently.
Via Bloomberg, "Fed Ends Treasury Buys That Capped Rates, Stabilized Housing":
The Federal Reserve completed its $300 billion Treasury purchase program today amid signs the seven-month buying spree helped stabilize the housing market and limited increases in borrowing costs.So, lets think this out. Right as equities extend their rally into the 8th month now, their could be a nice setup to transfer gains out of stocks and into treasuries right when another $2Trln in supply is set to come on. Time will of course will tell.
Yields on the benchmark 10-year note, which help determine rates on everything from mortgages to corporate bonds, never rose above 4 percent after the central bank began acquiring the debt.
The purchases were the first of U.S. Treasuries by the central bank to keep borrowing costs low since the 1960s. The Fed joined its counterparts in the U.K. and Japan in extraordinary debt-buying programs, broadening efforts to unlock credit and end the worst recession since the 1930s after cutting the benchmark U.S. interest rate to a range of zero to 0.25 percent.
“The Fed also happens to be exiting the Treasury market at a good time,” Goncalves added. “Other markets, such as equities, which performed well due to the expansion of the Fed’s balance sheet are retreating and that will provide a backstop for the Treasury market.”
Fed purchases have helped buttress demand as the U.S. sells record amounts of debt to finance a budget deficit that exceeds $1 trillion for the first time. Total sales of Treasuries will increase to $2.38 trillion in the fiscal year that began Oct. 1, from $1.81 trillion in the prior 12 months, primary dealer Goldman Sachs Group Inc. said in a report on Oct. 20.
The credit crisis seems to be over. Almost every indicator there is that would show a distress in creditville if there were one, is looking good. Credit the fed's intense emergency programs, rate cuts and liquidity facilities for that. Armageddon certainly seems to be completely off the table. I wonder where the next hiccup might come from? It may not be from credit. We are entering what may be the next phase of this cycle and the markets could react next to the massive government spending/deficits that have taken place to stem the worst recession since the 30s.
With the fed guaranteeing everything and engineering such a low interest rate environment (basically to recapitalize our banks), almost all assets got a strong bid; yes, the crappy ones too. AN EXTREMELY POSITIVE CARRY TRADE IS ON!! Stocks have been a proxy for everything. Remember I discussed how even with all the commercial real estate fears, the "CMBS AAAs, series 1, can't rally much more because the bids are close to par right now - around 93/94". There was a recent stumble in CMBS AAAs, Series 5 in the past week or so but I wonder how much of that was a result of the Stuy-town ruling against Tishman-Speyer.
What happens when the fed is no longer there as a backstop? What happens to the carry trade? Things that make you go hmmmmmmmmmm. I'll get into this topic in more detail later. No good party lasts forever.
Posted by daj
Fri Oct 30th, 2009 06:40 PM
Noah, I stop by and look at your analysis and take in your insights every now and then. Your thoughts are really pretty cogent and definitely worth a read. And thank you for taking the time to post them.
But I have to say that when I see you say the credit crisis appears over and disaster basically avoided and even "off the table", I cringe a bit, because I just don't see how the gov. or banking system has really fixed anything. Is all the bad debt really fixed? When will jobs be available?
They've propped up everything (meaning primarily big bank balance sheets, AIG, GM, FNMA, counterparty risks, etc) with huge amounts of new debt, and guarantees requiring even more debt; but what has fundamentally been fixed?
Hasn't a big chunk of debt just been transferred to taxpayers, who more and more have a sense that the least deserving (the wall street elite) got the bailout and the little guy got the shaft. And among my friends most everyone has cut spending, stopped buying nearly everything on credit and still has a lot of uncertainty about job security and what's the next bit of bad economic news to affect us all. I think spending and borrowing habits have been altered for decades.
If things have been fixed in a fundamental and sound way regarding the deep structural problems in banking, business, gov. etc...what in your view is it that has fixed things? I really would like to be optimistic, but am the opposite right now. And can't help but feel an even bigger collapse is coming in a year or two.
Posted by Noah
Fri Oct 30th, 2009 07:30 PM
well for the record, I am down for a double dip with the 2nd dip being far deeper and more strung out than the original fierce cliffdive to a new world we just experienced. The first move was a shift, from excess to constraint.
the confusion may be in the interpretation of 'crisis', the way I relate to it in the piece and what you think of in your mind. The brink of global systemic breakdown, where banks just wont lend to each other, major runs on major institutions, the fact that a lehman, bear, aig, fannie, freddie, etc. might fail literally overnight. spreads between corporate bonds and treasuries, whacked out ted spread, etc..that is what I mean by crisis.
i think this is behind us, at least for the foreseeable future. doesnt mean a credit dislocation cant happen again.
you know my thoughts on a 2nd wave, (cre, pe lbos, prime, option arm recasts, etc.)..but I think its out there. you know my thoughts on accounting gimmickery and the bad stuff still sitting on banks balance sheet. off balance sheet vehicles, mismarks in whole loans, etc..but you cant deny the artificial propping and carry trades that have resulted from policy.
im with you, and i call it UNINTENDED consequences. second phase to the cycle, if you want. whatever. what we will be left with is massive govt deficits, higher rates, higher taxes, higher commodity inflation, and unemployment lingering around its ultimate peak. it could be a few years of dullness and neverending housing/bank setbacks. add in tax policy, regulation, etc.. and who knows what the future may look like.
we are yet to see the side effects of all the free lunches from actions taken to stem a deflationary cycle. a reverse of the carry trade will be very painful if it hits, and nobody is really discussing it..
Posted by mh
Sat Oct 31st, 2009 08:36 AM
Hi Noah:
I am sort of thinking the same thing. I sold out of my TLT and IEF a few weeks ago and switched the money into UUP. I am of the opinion that right now, the dollar is the only asset class, if you will, that looks cheap. In addition, I kind of suspected that a sell-off was coming as well as a little bit of fear returning. I have not sold any of my long stock positions, except OIH, nor have I sold any GLD or SLV. However, my sense is that the dollar is way oversold, and if that dynamic changes in a big way, it will put major downward pressure on stocks and commodities (obviously).
Also, Mish wrote an interesting piece a few days ago about a looming potential currency crisis in Eastern Europe. Any thoughts on some potential crises that may unfold sooner rather than later tha could impact dynamics in the market?
Posted by Noah
Sat Oct 31st, 2009 08:47 AM
a currency crisis can occur anywhere at any time. Im not sure its enough to jolt the whole fx markets...if its a major currency then yes. im more interested in the crowded carry trades that have taken root on the back of the feds policies and cheap money. what happens if a jolt disrupts this and we see an unwinding of carry trades?
really very hard to call a specific event, so I wont try to. whatever it is, very hard to pinpoint or time. i still think gold is ok, and I do agree there could be a dollar reversal that could hit equities and money flies to cash/treasuries. I wonder how bad gold may sell of in that case, or if the concern is in currencies, fiat currencies, perhaps gold becomes a chosen asset class even if dollar rises? so many variables. so many interconnections. so many ways something may go wrong. so hard to predict. i think we are in unchartered waters and nobody really knows what the unintended consequences or the duration of side effects of this crisis really will be.
Posted by In Debt We Trust
Mon Nov 2nd, 2009 10:24 AM
Good post Noah!
Roubini also said something similar
http://www.nakedcapitalism.com/2009/11/
roubini-predicts-mother-of-all-carry-trade-unwinds.html
We are rallying based on liquidity and not solvency. So, if anything were to pull the plug . . . .
A key area to watch is the RBA. Interest rate decision to be made tonight. USD/AUD carry trade has been very popular w/spillover effects on gold and other metals. In fact, I've been thinking about shorting gold this week.