A Flight to Safety, But What's Safe Now?

by: Mike Steinhardt

Most people say “flight to safety.”  I just don’t think Treasuries are the definition of “safety.”  Some people say “flight to quality.”  I just don’t think Treasuries are the definition of “quality” when they represent the financial condition of this country with its deteriorating tax base, its overleveraged consumer, its increasingly unemployed workforce working in lower quality jobs, its devaluing real estate, its trade deficits, its budget deficits, its excessive government spending, its expanding and underfunded social programs,  its expanding list of failed banks, its underfunded FDIC, its underfunded and reckless PBGC, its deteriorating Federal Reserve balance sheet, its nationalized financial system, its pathetically weak fiat currency…

But if you want to suggest that piling all your money into short term Treasuries is a “safer” bet than equities, I have to agree with you, for now.

However, when you look at the 3-month T-bill and see a whopping 0.02% yield today you have to be very careful.  That’s the lowest level since WWII - not a good time if I remember my history.  Whenever a trade gets this overcrowded, it doesn’t usually end well.

The “breaking of the buck” at the Reserve Money Market Mutual Fund is very troubling.  I really respect Bruce Bent and not just because he started the Money Market Mutual Fund industry.   If this can happen to him due to Lehman’s demise, you bet it can and will happen to others who do not have his ethics or experience.  In fact, it has happened several times, but the sponsors were there to cover the losses (please reread Propping Up Money Market Mutual Funds from November 2007)

I suspect that some of these banks will not be able to keep that up forever and we will likely see some more buck breaking.  A year ago, I shared my personal story about concerns over the quality of assets held in a money market mutual fund.  Note that the ABCP and SIVs of last year and other risky assets held in some Money Market Mutual Funds are as crappy now as they were then.  You can assess whether Treasuries with no yield are “crappy.”

If you have a MMMF with a yield in excess of 1.5% over the past days, weeks, and months, you really need to evaluate what is in there and decide whether a few extra basis points are worth the risk.

Furthermore, it’s going to be a big problem when the yield in MMMFs that hold almost 100% Treasuries (all that flight to safer stuff) have yields that are less than the expense ratio, even if the expense ratio is really low, like 0.50%.  Check this Fidelity fund out as an example.   A prolonged period of rates like we have now in the Treasuries will lead to some serious challenges, especially if the stock market keeps losing and being so volatile.

A week ago, I mentioned my declining bearishness in commodities and my recent UP signals in the two gold ETFs I cover (IAU and GLD).  However, I never would have expected the massive move in gold Wednesday.  Obviously, for those people that don’t like the “Flight to Safer” trade in Treasuries, gold was more appealing.  Hopefully everyone realizes that gold is not safe.  Just look at the recent decline and you’ll know that.

The slope of the massive move in gold and Treasuries is not sustainable, but only you can decide what is safe enough.