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Monday, March 10, 2008

Negative Yields, Emergency Rate Cuts

Several good blogs picked this up earlier last week… and now Bloomberg has picked up the story.

TIPS' Yields Show Fed Has Lost Control of Inflation (Update1): “Bond investors have never been so sure that the Federal Reserve will lose control of inflation. They're so convinced that they're giving up yields just to buy debt securities that protect against rising consumer prices.

The yield on the five-year Treasury Inflation-Protected Security due in 2012 has been negative since Feb. 29, ending last week at minus 0.16 percent. The notes, which were first sold in 1997, have never before traded below zero. Even so, firms from Deutsche Asset Management to Vanguard Group Inc., the second-biggest U.S. mutual fund company, say TIPS are a bargain.

For the first time in a generation, money managers must come to grips with a central bank that's more intent on spurring the economy than restraining price increases. With oil above $100 a barrel, gold approaching $1,000 an ounce and the dollar at a record low against the euro, TIPS show investors aren't convinced Fed Chairman Ben S. Bernanke will be able to tame inflation once policy makers stop cutting interest rates.”

This is definitely not good.

“The last time investors were so worried about faster inflation amid slowing growth, Paul A. Volcker presided over a Fed that would raise rates as high as 20 percent to end the stagflation crisis of the 1970s, according to Seth Plunkett, a bond fund manager at American Century Investment Management in Mountain View, California. The firm manages $20 billion.”

In my post We Need Another Volcker on September 12, 2007 is wrote:

“What the world needs is another Paul Volcker to really purge the system and set things up for real, robust growth. ASSET PRICE inflation (yeah that would include your ridiculously priced home) is just INFLATION by another name.”

Too late for that now.

The de-leveraging continues. That means more pain for risky assets, such as equities, is pending.

Hedge Funds Reel From Margin Calls Even on Treasuries (Update1): “The hedge-fund industry is reeling from its worst crisis in a decade as banks are now demanding more money pledged to support outstanding loans even when the investment is backed by the full faith and credit of the United States.

Since Feb. 15, at least six hedge funds, totaling more than $5.4 billion, have been forced to liquidate or sell holdings because their lenders -- staggered by almost $190 billion of asset writedowns and credit losses caused by the collapse of the subprime-mortgage market -- raised borrowing rates by as much as 10-fold with new claims for extra collateral.

While lenders are most unsettled by credit consisting of real estate and consumer debt, bankers are now attempting to raise the rates they charge on Treasuries, considered the world's safest securities, because of the price fluctuations in the bond market.”

Carlyle is one of the more prominent casualties…

Carlyle Capital Says Lenders May Force Further Sales (Update3): “Carlyle Group's mortgage-bond fund said creditors may liquidate as much as $16 billion of securities unless the two sides reach agreement on debt repayments.

The fund has asked lenders to refrain from further sales after they liquidated collateral securing $5 billion of debt, Carlyle Capital Corp. said in a statement today. It is meeting lenders to discuss more than $400 million of margin calls and is “evaluating all options,” the Guernsey, U.K.-based fund said.”


This morning we’ve got the usual rumours: “The Fed will do an emergency cut this morning.”

S&P went bid of course as the source of the rumour was identified as Goldman Sachs.

For those among you that have been conditioned to believe that rates DOWN = equities UP... check it out:

Equities fall FIRST, and then rates fall SECOND. Rates and equities are POSITIVELY CORRELATED... with equities LEADING in BOTH directions. When the FED STOPS cutting rates, THAT is the signal to go LONG. Not before.

I’ve put up a nice little chart illustrating the relationship between short term rates and equities.

Furthermore, how can you get EXCITED about emergency rate cuts when real yields are negative? I mean, seriously.

Related Blog Posts:
Real Interest Rates Are Now Negative
The Death of Real Yields Continues

Related Headlines:
Auction-Rate Collapse Spurs Bond Sale ‘Tidal Wave’, Hearings in Congress
Money Markets May Force BOE to Revive Auctions, Barclays Says


Anonymous said...

Great stuff, Ben. Most people are conditioned to believe that rate cuts are good for stocks, because most people are not conditioned to think critically. Remember that the Fed overshot the mark and continued to cut into 2004, even after equities had found a bottom end of 2002, early 2003. I think it's more the psychology that "rate cuts are ending, so it must not be that bad".


my fav home lone said...

nice to go here. Almost all peoples get benefits through this rate cuts. Even some changes doesnt case much effect to people

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