Another take on the treasuries bubble

`
The consensus is coming down on the bearish side for U.S. government bonds in 2009. There is ample reason to believe that Treasuries will be an asset class to avoid this year.

Yet, as I argue in a post a few days ago, “rates can go to unusually low levels for much longer than people think,” as Stephen Roach has said. And with the global economy in a serious state of unwind maybe treasuries are not going to tank. Does this mean, one should be loading up on U.S. Government debt? Not if you believe Andrew Barry of Barron’s Magazine.

The biggest investment bubble today may involve one of the safest asset classes: U.S. Treasuries. Yields have plunged to some of the lowest levels since the 1940s as investors, fearful of a sustained global economic downturn and potential deflation, have rushed to purchase government-issued debt.

The market also has been supported by comments from the Federal Reserve that it, too, may buy long-term Treasuries. – As a result, the benchmark 10-year Treasury note yields just 2.40%, down from 3.85% as recently as mid-November. The 30-year T-bond stands at 2.82%, and three-month Treasury bills were sold last week for a yield of just 0.05%. – Many investors argue it’s dangerous to buy Treasuries with such low yields. While a holder can expect to get repaid in

full at maturity, the price of longer-term Treasuries could fall sharply in the interim if yields rise. The 30-year T-bond, for instance, would drop 25% in price if its yield rose to 4.35%, where it stood as recently as Nov. 13. The bear market may have begun Wednesday, when prices of 30-year Treasuries fell 3%. They lost another 3% Friday. – “Get out of Treasuries. They are very, very expensive,” Mohamed El-Erian, chief investment officer of Pacific Investment Management Co., warned recently. Pimco runs the country’s largest bond fund, Pimco Total Return (ticker: PTTPX). – Treasuries offer little or no margin of safety if the economy unexpectedly strengthens in 2009, or the dollar weakens significantly, or inflation shows signs of reaccelerating. Yields on 30-year Treasuries easily could top 4% by year end.

My personal take on things is the following:

  1. The global economy is very weak – much waker than most people realize
  2. This means that monetary authorities will not be able to reflate the U.S. economy.
  3. As a result, interest rates in the U.S. will fall –not rise

For what it’s worth, I expect the same scenario to play out ithe U.K. as well.  Does that mean I m loading up on Treasuries?  Not on your life.  This is an asset class to avoid.  Sometimes the best trade is no trade. If you want U.S. government exposure, TIPS are a hedge against reflation that may be the better trade.

Source Get Out Now! – Barron’s

Related Reading:

Money and Capital Markets
The Complete Guide to Capital Markets for Quantitative Professionals (McGraw-Hill Library of Investment and Finance)
Spanish Treasury bond market liquidity and volatility pre- and post-European Monetary Union [An article from: Journal of Banking and Finance]
Monetary Policy, Inflation, and the Business Cycle: An Introduction to the New Keynesian Framework
The Economics Of Inflation – A Study Of Currency Depreciation In Post War Germany


Originally published at Credit Writedowns and reproduced here with the author’s permission.

One Response to "Another take on the treasuries bubble"

  1. Anonymous   January 9, 2009 at 7:33 pm

    Due to US government market manipulation, the price of gold is very reasonable right now, and the risks are minimal (especially when compared to stocks, bonds. and US treasuries). If you’re an investor, this might be your golden opportunity!