this justin

it all comes down to global imbalances

2009-01-16T12:14:00.000-08:00

from john kemp, columnist at reuters.............

Leading economists agree that global imbalances lie at the root of the current crisis. But opinions are more sharply divided on their origins, which countries are to blame, and what should be done to resolve them.

The Fed’s critics argue that cheap money policies in the late 1990s and early 2000s are mainly responsible for fueling a debt-driven consumer boom, and sucking in record volumes of imports, many from the newly industrializing economies of Asia. Funding all this required issuing huge volumes of debt, much of it securitized against dubious mortgages and consumer debts, and sold to foreigners when domestic savings proved inadequate.

In contrast, Fed Chairman Ben Bernanke and some leading commentators blame China. In their view, China’s reliance on export-led growth, refusal to allow the yuan to appreciate, accumulation of foreign reserves, and recycling of surplus foreign exchange back into the market for U.S. government bonds and mortgage-backed securities created a “global savings glut”. This glut artificially reduced global interest rates and created the perverse incentives for an unsustainable build up of debt in the United States.

Differing interpretations about the origin of the imbalances lead to the two sides to proffer different solutions. Fed critics argue the solution lies in a long-term tightening of U.S. credit conditions and higher domestic savings. Bernanke and his supporters argue the solution is for China to stimulate domestic demand, appreciate the yuan and reduce reserve accumulation.

In reality, it takes both a lender and a borrower to create a debt crisis; the solution to the crisis lies in balanced adjustments on both sides................

full article here.

there is soo much useless noise surrounding the credit crisis..... bogus analysis, fantasy predictions, half truths, and damned lies. the biggest influence on the crisis is the excessive build up in debt, of consumers, governments and businesses. these excesses were possible because of global imbalances that were allowed to grow to dangerous levels because of lax government oversight and political will to change them. there will be no real/true/concrete crisis fix until all these aspects are addressed.

japan 2.0, not convinced...........

2009-01-07T10:15:00.000-08:00

recently it has become very popular to be bearish treasury bonds. many articles, commentaries, pundits, etc. are talking of a bond bubble forming, and many regard its subsequent bursting to be a fabulous trade. i'm beginning to worry that i am part of the herd. the group that usually gets it all wrong. however, as i mentioned, the average wall st. analyst/strategist opinion is for a mild increase in yields, whereas i'm expecting a more substantial increase.

the thing about being contrarian is that it is very difficult, if not impossible, to accurately gauge market sentiment. i can only say that it seems that there is a lot more people becoming bearish on treasuries, but, its to hard to say the trade is definitely "crowded". and as i mentioned yesterday, the big pappi's in this market are central banks - their action or inaction will be the biggest determinant of treasury prices long term.

i mentioned that i'm in this trade for the long, long term. i think it is impossible for the global financial system to continue as a going concern unless we correct global imbalances. us 30yr treasury yields at 3% is a global imbalance. it should not be. i will discuss global imbalances and more of what should not be in a later post.

however i am worried........ why should i care if yields continue lower in the short term? many who remain bullish on treasuries do so because they believe that america can end up falling in a deflationary spiral. they point to japan's deflation episode in the 90s as a reference point. to their credit there are a lot of similarities between japan and america including, a bursting real estate bubble, a lending shy banking system, and a central bank engaging in voodoo policies such as zirp and quantitative easing. why is this a scary proposition..... because during the japanese experience yields on japanese 10yr bonds traded as low as 0.47%!

that is the scary downside to being short treasury bonds. however, i don't think that the japanese experience is a good reference point. let me share some reasons.............

* prior, during and after the "japanese experience", japan was a creditor nation. they had trade surpluses - no external debt financing necessary. also, the peoples of japan, prior, during, and after were net savers. it's hard to fathom how zirp and quant easing can have the same effects/results on a country with low overall debt and a current account surplus, like japan, with a country with very high indebtedness and a nasty current account deficit, like america.

* japan's deflation lived on an island. that might sound silly, however, when japan was suffering from the bursting of their real estate bubble the rest of the global economy was doing just fine thank you very much. were taught to gauge an investment not only on its own merits but also within the context of your entire portfolio. can we not employ this same philosophy on global economics? today when you look at the global economy you see that just about every developed country is enacting a massive bond financed stimulus program. how is any country going to keep rates low when everybody is raising money? (i'm assuming destroying your currency is not an option)

* in 2008 we read many stories on peak oil, in 2009 i think we'll be reading stories on peak credit. and nowhere is the peak any higher than in america. its just brutal. below is a chart i got from the gartman letter, but it you really want to see scary watch i.o.u.s.a

its tempting to use japan as a reference point because they recently experienced a deflationary economy, and they engaged in wacky monetary policy like zirp and quant easing. frankly its the only modern day example to draw on. the modern day history of deflation/qe/zirp has a sample of one. the similarities between america and japan are just on the surface, once you dig deeper i believe its hard to make the case that japan is a useful reference.

since i'm bashing bonds let me shoot out another couple of points unrelated to japan...........

*domestic resources to purchase treasuries are paper thin. even if everyone started saving like it was 1980 there wouldn't be enough demand to meet the number of treasuries that will be issued in the near future.

when reagan took office america’s personal savings rate was 10%; today it is around 0%. disposable income in america stands at slightly under $11 trillion. if americans returned to the personal saving rate of the early 80s, individuals would save $1 trillion a year. this is not enough to fund the upcoming budget deficits, and that is assuming that all net new investment flowed into treasury securities.

and its not all just about the "new" debt america needs. its also about rolling over the old debt america has. in 2000, the average length of us public debt held by private investors was 70 months. as of march 2008, the average length has shortened to 53 months. 71% of this debt is due in less than 5 years; 39% is due in less than 1 year.

*in the last four recessions treasury yields have been positively linked to gdp growth, so if you expect the economy continue its struggles (and i do) you should expect yields to continue to decline. here's my problem with that rationale......

1. its becoming increasingly clear that this recession will be much worse then recessions past, making any comparisons weak at best;

2. we started this recession with 30yr bond yields at roughly 4.5%, much lower than they have been in recessions past.

*and finally........... i recently read a blurb from morgan stanley that suggested the real money community (pension funds, lifeco's, etc) was net underweight government bonds, and thus could fill the demand gap. unfortunately they didn't show any hard numbers to support this.

i say....... the "real money community" needs just that - real money! their not going to get it with 3% yields on 30yr treasuries. so maybe institutions have room to grow their government bond allocations, but by doing so they would undermine the purpose of their existence.

so there you go bond bulls..... your sushi stinks. i'm your right, your wrong. ha,ha.

if it was only that easy. trading is not about being right its about making money, and recently shorting bonds has not been making money. quite the contrary.

trying to pick tops is best done with dumb luck. there is no fundamental, technical or funda/tech combo that can tell you when a market will turn. so you either don't try, or you do so in small doses.

recently, 30yr yields have bounced around 50 beeps of their lows. this is an encouraging sign. what will be more encouraging is to see this rise in yields continue in the face of increasingly poor economic figures.

bond bear articles/comments/reports......etc

2009-01-06T12:21:00.000-08:00

i am a bond bear. roar. i believe that interest rates on us government bonds will rise. hardly a daring prediction considering bond yields are at historic lows. however, i don't think yields are just going up, like from 3 to 4 or 5 percent (30 yr bonds). instead i think that we will soon embark on a long journey of rising yields.

my mirror ball:

short term - market will become worried of the grandeur of us goverment deficit spending, existing debt, entitlement promises, and will lose faith in american leadership. deflation worries will be balanced by threats of foreign central banks dumping us debt. 30yr yields will zig zag back to its long term downward sloping trend line at around 4.25%

medium term - the fed's 08/09 money tsunami will finally create...... you guessed it - inflation. with the market still worried about past debts and future promises, a long with the threats from foreign central banks, we will finally break the trend line. the economy will bounce from bad to good, and from good to bad. yields will be volatile within a wide range, say 5 to 10%

long term - after years of struggling to find past economic glory, the fed after months of deep meditation, will buck the ideology of "boom no bust", and will embrace "bust to boom". they will raise interest rates, and in this new era of spiritual economics yields will soar to 15+%.

over time i will post supporting articles, comments, reports, analysis....etc.

like the rest of my species i am inclined to seek out information that agrees with me. i wouldn't be human if i didn't suffer from a little confirmatory bias. this is part of the challenge of deciphering right from wrong in investment analysis - its difficult to always stay objective. the price of treasury securities are influenced by many factors, and the dynamics of this influence is constantly changing, thus making analysis that more challenging.

today i'm intrigued by a chart that would possibly refute my short term outlook....

the data studs at bespoke have neatly arranged a chart showing the consensus interest rate projections of wall st. analysts/strategists. what worries me is that it seems that there is a consensus developing that interest rates are going to be going up. i don't need to explain how consensus wall st. opinion proves to be wrong over and over again.

looking at the chart with contrarian spectacles you would be inclined to go against the herd and say maybe yields will in fact continue lower. on the flip side, you can also say that maybe the herd's expectation for rising rates is much too tame, and it will thus prove to be far beyond their expectations. hmmmmmm.

maybe this whole idea of contrarian analysis is not very useful in the treasury market after all. even the biggest pension funds are minnows in government debt markets. the big pappi's are foreign central banks. any long term sustained move will be because of their action or inaction.

in the most recent short term we have had a monster rally in treasuries. who is responsible? we know that a.k.a "bond king" bill gross @ pimco is not interested in buying us gov debt. big money institutions react too slowly to be responsible for such a fast move. some claim that its the banks using government bailout money on treasuries instead of lending it like they were supposed to. this is what happened in japan, during their bout with deflation. however, the logistics of that argument are questionable.

because it happened soo fast i'm inclined to believe that it is a result of short term oriented traders reacting on deflation worries, fed speak, accelerating economic woes, and the like.

for this to be the "real deal" more time has to pass. that seems a bit obvious, however, considering how volatile markets have been you would be making a mistake not to ignore the possibility that treasuries can make a full u turn and begin to trade aggressively to the downside.

it was only last summer when crude oil went for the moon on questionable fundamentals and then abruptly plummeted. there were a lot of people at the time claiming that oil was in a "bubble". and sure enough it was.

i think its important to consider that it is becoming "popular" to be bearish on treasuries. however, this fact alone is not enough to change one's mind. the rally in treasuries since mid november has been fierce, but so was the rally in oil before it broke, and the same for technology stocks before they broke.