You know my nervousness that has developed over the past couple of months regarding Treasuries. Below, I am listing the Bullish and Bearish sides of the argument. As far as a change in my thesis, I will continue to monitor the situation, but am still on the bullish end.
+ US is the one-eyed king in the land of the blind. Sovereign debt problem are beginning to crop up and the list of potential problem countries is indeed extensive: Portugal, UK, Japan, Dubai, Spain, Greece, Ireland, Emerging Europe, the list goes on and on.
+ Renewed risk aversion: This ties in with my point above, any type of risk aversion (whether it be sovereign debt, possible double dip). We will still see investors coming into the #1 safe haven, the US.
+ US households’ financial allocation to treasuries is at historically very low levels. David Rosenberg writes
—-"Have a look at the household balance sheet:
• Households own $18.2 trillion of residential real estate, even after the value destruction of the past three years.
• Households own $18.1 trillion of equities, despite the vicious bear market.
• Households own a near-record $7.7 trillion of deposits and cash — earning next to nothing in yield.
• Households own $4.6 trillion of consumer durable goods.
• Households own $3.5 trillion of corporate bonds and municipal/agency paper.
What do households own in Treasury notes and bonds? Try $800 billion."——
Breaking this down into percentages, we have Real Estate comprising 34.4%, Equities 34.2%, Cash 7.7%, Consumer Durable Goods 4.6%, Corporate bond and Muni/Agency paper 6.6%, while monies allocated to Treasuries = 1.5%. A secular change towards income is taking shape as we continually see bond funds getting the beef of all this dry powder that financial pundits speak of.
+ The Japan Experience: Japan’s rates have been very low due to their experience with deflation, which I believe is very alive in the US.
+ Financial companies are masking substantial losses that have been fudged by the FASB rule. They know they are in trouble and given my outlook for the US economy, they will be a large force of buying power.
+ The US might be embarking on a more prudent fiscal path as Volker’s presence is an palpable sign of Obama’s change in strategy. Volker was always a champion of fighting inflation and has recently acknowledged that excess leverage is bad for the economy. Recently we have seen more Fed officials (Hoening) making statements regarding battling the deficit.
+ A large short covering rally as the long bonds have a hefty amount of short on them.
– Obama’s budget makes some very optimistic assumptions which could very well need to be revised. Structurally, the US is in a deep deficit which would diminish demand for US debt.
– Monetization of US debt would reduce demand
– Oncoming hyperinflation would force feds hand in raising interest rates which would kill Treasuries
– China wages Financial warfare with US by not buying their debt.
– If the US begins to bailout states? That would surely grab the headlines.
– A weakening dollar will move investors to seek commodities as this ties in with the hyperinflation outlook.
Notes to self
While longer term I am a bit more bearish in Treasuries, I still think we will have a large round of risk aversion as the global economy double dips or sovereign problems take center stage, thus causing the dollar and treasuries to become safe havens, I will be watching gold’s price action during any risk aversion trade that may result.
Perhaps a tipping point in my thesis would be if the US began employing EU style bailouts of its constituents, the states. If California gets a bailout, then moral hazard will have moved to the states and will pretty much put the taxpayer on the hook for everyone. In a sense, we would be come a socialist nation. At this point, I would probably flip to the bearish end.
But for the time being, I am monitoring the situation and still see a strong bullish case.