Steer Clear of Treasury Auctions

The Treasury auctions this week are on everyone's minds. This week will see $100 Billion in Treasury issue, and approximately $1 Trillion or so in total issue between now and September (calendar check: it's late May now). So where will this money come from?

In this interview, Paul Krugman says we're going to save it ourselves:

One way to think about the global crisis is a vast excess of desired savings over willing investment. We have a global savings glut. Another way to say it is we have a global shortage of demand. Those are equivalent ways of saying the same thing. So we have this global savings glut, which is why there is, in fact, no upward pressure on interest rates. There are more savings than we know what to do with. If we ask the question "Where will the savings come from to finance the large US government deficits?," the answer is "From ourselves." The Chinese are not contributing at all.

Yes, the US's domestic savings rate finally went positive, but I don't see how it's going to be enough to come up with a trillion dollars in the next four months, especially when during the best of times we couldn't internally finance a measly few hundred billion in an entire year. Plus, I really don't see how unemployed families cutting back on demand translates into their ability to create a savings glut.

So where will the money come from for this week's $100 Billion in Treasury issue? There are several possibilities, but before I list them I remind one and all to remember that Ben has some room to play with. After all, the 10-year Treasury bond rate has been at lows not seen since the 1950's, driven there by Ben himself. Now there's a growing sense that the irresistable force is about to meet the immovable object, but my gut tells me "not yet". My list:

1. Crash the stock market and scare money into Treasuries.
2. Print, buy MBS (and overpay), and tell the now-government banks to use the proceeds to buy Treasuries for their own accounts, boosting the banks' balance sheets. By the way, none of you really believe the private Fed is going to realize any losses on any of this junk, do you?
3. Conduct an announcement, coordinated with G-20 central banks, of another round of monetization. An ECB monetization / rate reduction is being talked up right now. These coordinated announcements crush all currencies (except gold) equally and are an attempt to trap capital by giving it no safe haven.

The game is far from over IMO. As markets occasionally work up to emotional crescendos, expect any one or a combination of these options to be implemented as the need arises. The market manipulators are playing with your emotions, talking you up and down, in and out. The cycles will be repeated as often as possible / necessary. They know exactly what they're going to do next (as do people on the "friends and family plan"), and you don't. Emotionally exhausted investors and traders make mistakes, get caught offside and have their money stolen by insiders. My first SA article, from November 2008, started this way:

It should be obvious that it’s in the best interests of the monetary authorities (central banks et al) to create a muddy picture with respect to inflationary vs. deflationary expectations. Were they to allow it to become obvious that deflation is unavoidably coming, everyone would place the appropriate bets and deflation would be self-fulfilling. The same is true of inflation. Confusion reigns supreme, and this fact is, in my opinion, no accident. It is as it must be. Mixed signals, unclear information, even confusing policy responses can be seen as dezinformatsia.

My advice: step off the roller coaster, find a defensive investment strategy that won't keep you awake at night, throw a jumbo popcorn in the microwave, and enjoy the show. The markets, like politics, are nothing more than theater. I am 51 and I hope I will live to see a day when investing becomes investing again.

Disclosure: The author is not a financial professional. Please do your own due diligence. The author is roughly 50% cash / 50% dollar short instruments such as precious metals, TBT, etc.

Comments

[Timmothy Posey:]

I say #1 is more likely. It is easier for the Federal Reserve to pull the plug on all the recent "green shoots" media play and allow the market to correct itself back down. That will lead the flight to quality into 10-year Treasuries and bring down the mortgage rates to ~4.5%. Let it sit there for about a year and it is the equivalent of a multi-hundred billion dollar tax break on the consumers from refi's and lending companies re-hiring mortgage brokers to handle the extra demand. It will also allow the banks to profit from origination fees to help balance out the losses from their non-performing assets.

May 26 11:20 AM

[Michael_Cohen:]

US GDP: $13.5 trillion (give or take)
Savings rate: 6%

=$800 billion, and I don't think the government can mandate that all of that goes to treasuries. With a budget deficit of $2 trillion+, Krugman an others are living in a dreamland.

I don't think a market crash will trigger a flight into treasuries. Those who did that in October got hosed. While I'm paranoid, I'm also not that paranoid that the Fed will spook the market into sell mode and lead to a flight of treasuries. During that 25% dip in January-March, treasuries went down too.

Think the next month or so will just be more of the same...we'll reach the precipice around August or so, when monetization/inflation or a severe economic downturn as a result of higher interest rates. I'll bet on the former.

May 26 04:55 PM

[Jasper M:]

They may Try all of the above. But there is a lot of pretty robust rules about chaotic systems. I've lived long enough to see fed ops get run over, more than once (currency ops, in the 80's, for example).
The finer points are already escaping their control. The rest will follow. I will put my faith in science, and bet against them.

May 26 05:14 PM

[Mad Hedge F...:]

Good advice. One of my core positions, the PowerShares Lehman 20 Year 200% short ETF (TBT), a bet that benefits from falling long Treasury prices, hit a new high for the year today at $54.50. Long time readers of this column got into it in December at $35. The ripple effects of last week’s US downgrade chatter is still feeding into prices, exacerbated by another huge slug of new issuance this week. Treasury futures got slammed, gapping down two points to 118 3/4, and are off a breathtaking 20% from the recent peak. I think the downgrade talk is premature, and the inflation rationale for this trade is still years off. The news about another North Korean nuclear test is just noise. But when a security is as accident prone as Treasury bonds, you never know which of the panoply of negative surprises is going to hit first. I think the bond bubble has popped, and that the TBT could eventually spike to $200.

May 26 08:50 PM

[morph366:]

While I agree with the general thrust of your article you may be just a little too optimistic with this remark about Bernanke et al.
"They know exactly what they're going to do next (as do people on the "friends and family plan"), and you don't."
Maybe they're just making it up as they go along and praying that the markets won't figure it out.

May 27 09:16 AM

[MarkitWacha:]

There is one alternative that hasn't been spoken.

It's possible that the US Congress will see how negatively the higher rates are affecting people, and then they will act in the people's best interest and do an emergency halt to the treasury's bond offerings.

If you believe that, I have a bridge for sale over in Brooklyn...

Seriously, there are conservatives that believe that if the GOP wins a majority in 2010, they can roll back the enormous tax and spend plans of the Democrats.

Full Disclosure: I don't like either political party.

May 27 12:19 PM

[Smarty_Pants:]

"I hope I will live to see a day when investing becomes investing again"

Barring the complete collapse of society (low probability event, I hope), or smothering taxation/regulation there will always be a place you can invest successfully.

Your own business.

You control the use of any profit generated. Pay dividends, re-invest to expand, or build up a cushion for the possible economic collapse. The money is under your control and not some Board of Directors' in some far-off city.

Naturally businesses which operate mostly on a cash basis would be preferred in that hyper-regulated environment. I expect that black market transactions will increase greatly over the next few years as the gub'mint tightens the screws trying to save the ship.

May 27 10:34 PM