Do you remember back in 1996 when Alan Greenspan warned of “irrational exuberance” and the stock market cratered? His warning lasted less than 24 hours and stocks were back to previous levels in less than a day or two. It was at THAT very point in time that had the Federal Reserve pulled the punchbowl, the bubbles to follow might not have occurred. Not only did they not pull the punchbowl, it was during this time frame that the Gold manipulation scheme shifted gears from “moral suasion” and jawboning to physically and methodically suppressing the price. The manipulation has been relentless except for one brief time while Paul O’neill was Treasury secretary. I don’t believe that he had the stomach for the manipulation and this was the reason for his very short tenure.
Fast forward to the present day, forget about stocks, Treasury bonds represent the definition of “irrational exuberance”. I know that I’ve written on this subject many times before but I believe that this IS the heart of what’s wrong today. 10 year Treasury yields have gone below 1.5%, think about what this really means for a moment. With your knowledge that inflation is running far above this number, what incentive is there to lend your money at these rates? What incentive is there for anyone, anywhere to “save” in Dollar accounts? …there is no incentive. Yet rates are continuing downward? How? Why? Because they have to, if they don’t the entire system will blow up in a very public fashion.
Let me explain. On the federal level, we are adding $1+++ Trillion of new debt every year to the existing, this is like adding more balance to your credit card month after month but only making the minimum payment. At some point (we have reached this point on a national level already), in order to even make the “minimum payment” you will need to do a “balance transfer” to get your interest rate down low enough to afford the payment. The “balance transfer” is at the heart of the heart of this matter (no typo). Before I go any further, no one 5 years ago or more could ever imagine longer term rates going to where they have today for ANY reason, they have. Too much debt…that is the “why” interest rates are where they are, it has been manufactured out of necessity, now for the “how”.
I believe that the Fed has been “funding” the money center banks and in a weird way it has forced rates slowly downward to accommodate the Treasury’s interest expense. I believe that the money center banks have levered their positions to the moon by taking existing Treasury securities and levering them to buy more AND to sell “puts”. The way current accounting and “regulations” work for the banks, if a bank sells “puts” worth X amount of face amount, they can (MUST to hedge) then “purchase” that same face amount of actual Treasury securities and not have to count this against their necessary capital because they are showing “a perfect hedge” in a “risk free” position. I am not sure exactly the nuts and bolts on how this is and has been done but I do know that THIS is the reason for gross expansion of derivatives outstanding. This is the “how” which is being mistaken and touted as “safe haven buying” which to some extent has happened as a result because money managers have gotten sucked into the momentum trade and are stupid enough to believe that Treasuries are a safe haven..
The above said and assuming I am correct (I am for the “why” and pretty good odds on the “how”), where does this leave us? It leaves us in the most ridiculous (excluding tulip bulbs) manic financial bubble in anything the world has ever seen. You’ve heard it over and over and your own logic tells you that “buying Treasury securities which are: 1. issued by an overleveraged debtor which has become a shaky credit, 2. THE most highly AND overissued securities on the planet, 3. offering interest rates below the inflation rate, 4. a contract to pay you more of the same scrip that can be issued or printed with the push of a button, 5. …nevermind, they are contracts of guaranteed loss over time!
So, back to where I started, “irrational exuberance”…does it fit the Treasury market or what? We will soon see “what” is a safe haven and “what” is an impostor. The boneheads like Warren Buffett et al who are suggesting a large “cash” position and Treasuries as a “safe haven” might as well be directing investors toward Auschwitz because once this thing goes there will be no way out as the “onlyest loneliest” buyer of Treasury securities will Ben Bernanke himself. …And he’s going to be awfully busy dumping duffle bags of Dollars to “save the day”. I am sure that this will all look comical when viewed as history in the future, unfortunately, this is for all the marbles and will affect us all for the rest of days.