Downgrades and Liquidation

August 8, 2011

Though most holders of US Treasuries won’t be under pressure (yet) to reallocate their bond holdings, for a number of them a second ratings downgrade will change that.

This morning the suggestion is out that Moody’s will likely downgrade US Treasuries if the Bush tax cuts don’t expire as scheduled at the end of next year.  I can’t picture the House majority going along with that, so insurance companies and pension funds who have ratings-based guidelines for their portfolio will have to start thinking about repositioning for a second downgrade.

Most who don’t know the bond market will probably think that action would result in selling pressure on Treasuries.

Au contraire, mon ami.

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Death of the Yield Curve?

August 7, 2011

When Alan Greenspan ran rates to near zero in preparation for Y2K, he kicked off a wave of financial asset speculation.

Not satisfied with that object lesson, he repeated the monetary stimulus (doubled down) after the 9/11 attacks, thus making sure we could all go shopping whether we had the income to support the new debt or not.

As much as modern economic historians would like to blame the debt overhang problem on families or government, the reality is that debt growth from the late 90′s until the collapse of 2008 was by far fastest and largest among financial companies.  Luckily for them, their position as the dominant “industry” in the S&P 500 and their position as the largest contributor to both parties in the national government pretty much set us all up to be the life preservers for the banks and brokerages.

Unfortunately, when you’re just an ordinary Joe trying to swim to shore after the ship capsizes, you are likely to drown if you are being used as a life preserver by the 240 pound bankers.

All of which brings me to the actual difference this time that may allow the yield curve recession predictor to fail.

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Getting the Sign Wrong

August 7, 2011

I’m going to show my age here, but that’s OK.

In my very first consulting assignment with a professional trader, I came in to rescue a project that had been started by an academic who was pursuing a PhD in Computer Science.  Unfortunately, that meant there was already a computer and a partially-completed bunch of software that didn’t quite run on that computer.

The software was written in APL (favorite of the theoretical computer science set at the time), and the computer was IBM’s earliest attempt at creating a PC.  It was the model 5100, for those who want to place this story in the context of useless technological history.

The punch line of this story is that I wrote the rest of the program exactly as specified, but when it produced the results for the commodity trader who hired me, it was telling him to buy when he should be selling, and vice-versa.

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Recessions and Yield Curves

August 7, 2011

NOT déjà vu.

If we are going into another round of recession, we aren’t going the same way as before.

In the late 90s, I was part of a group of cyber-buds who debated markets, economic theory and policy in a stimulating endless argument.  A few of them (George Ure, Tom Drake, Rick Ackerman) have carried the tradition to this day, adding their voices to the tree frog chorus of economic thought on the web.

Just to be clear, I love tree frogs and their nighttime racket.

I have my Tree Frog Beer T-shirt from freshman year in college, much the worse for wear, but you can still recognize the all-knowing face of the Checkered Demon.  For those who know and appreciate the greatness of the Demon and S.Clay’s other characters, you might want to stop by and donate to help him with uncovered medical expenses.

But, I digress.  What I really came to do today was to talk about yield curves predicting recessions. Read the rest of this entry »

Downgrade Comment

August 5, 2011

I just want some of the doomsayers to realize that Japan was downgraded by S&P to AA- in late January, and they threatened to take it farther down after the tsunami.  That would make Japan’s long-term rating single-A (plus) if they follow through, which would make Japan three full “notches” lower than the AA+ the US Treasury now holds.

So, if you listen to the news, this would now make all borrowers pay more, etc. etc.  So what is AA (minus) rated Japan paying these days?

Answer: 1% yield for 10-year Japanese Government Bonds.  Hmmm.

Maybe Japan doesn’t have the same debt problem we do?  Nope.  Their debt is twice their GDP, and ours is less than half that.  Maybe Japan doesn’t have the same problem of an aging population?  Nope.  They are older than we are, have fewer younger workers than we do, and they live years longer than we do once they reach retirement.

So don’t panic (yet).  We should be so lucky as to pay the same interest rates as the Japanese do with their twice-as-bad national debt and their credit rating that is two notches lower than ours.

Wait and see what the market says.


Comments and a reply after the break. Read the rest of this entry »


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