US Treasury Yield Spike

[Viking]

Has anyone else noticed the spike in Treasury yields that has been happening since their Dec lows?

 

The 10 and 30 year have now moved more than 100 basis points higher since March 31st and even the 5 year is up 76 basis points. The insurers who sold their 'risky' assets in Q4 and moved to 'safe' US treasuries will be looking at some more material mark to market losses when Q2 closes!

 

I wonder what the yield

 

Why the sharp move?

1.) move to stocks/corp bonds (risk assets) has reduced demand for Treasuries

2.) concerns over fiscal situation in US

3.) less buying from China/other foreign governments???

 

Date          1 mo 3 mo 6 mo 1 yr 2 yr 3 yr 5 yr 7 yr 10 yr 20 yr 30 yr

12/18/08  0.03 0.00 0.15 0.43 0.68 0.92 1.26 1.59 2.08 2.86 2.53

03/31/09  0.17 0.21 0.43 0.57 0.81 1.15 1.67 2.28 2.71 3.61 3.56

05/26/09  0.13 0.18 0.30 0.50 0.96 1.45 2.30 3.05 3.50 4.42 4.45

05/27/09  0.18 0.17 0.29 0.49 0.96 1.50 2.43 3.22 3.71 4.58 4.59

 

 

[Viking]

And the next question on everyones mind is what is going on with US municipals?

 

Check out the chart comparing the 20 year Treasury to Muni yield: www.munibondadvisor.com/market.htm

 

It looks to me that speads were about 300 basis points at their high in November/December. It now appears they are now less then 25 basis points, close to the long term average.

 

Implications for FFH/ORH?

1.) by selling their Treasuries they missed this bloodbath

2.) they have made significant gains on their muni holdings

 

I wonder now that spreads are back to normal if they will now sell the munis to realize the gains and move back into Treasuries? Unbelievable!

[Aberhound]

Another reason for the spike:

 

    4) the Fed has slowed down or stopped its purchases of long dated treasuries.

 

Wouldn't it be better economic planning to avoid such volatility? It can't be easy for Fannie and Freddie to avoid losses when there is so much volatility, unpredictability and political pressure to keep mortgage rates low. I wonder if the banks are making profits selling 30 year mortgages only to have losses accrue to Fannie and Freddie and ultimately the taxpayers. If so, in addition to the increase in treasury rates, the mortgage rate spread will have to increase to offset the current losses caused by the narrow spread and volatility.

 

I wonder if JPM profits from a steeper yield curve?

[Cardboard]

Hi Viking,

 

Higher treasury yield on the long end is a big issue for the U.S. since it's increasing the yield on mortgages. The causes for the move are probably a combination of the three points that you mentioned and maybe what Aberhound mentioned although, I think that they were mostly bluffing at the time.

 

I read that article today which brings nothing new, but still reminds me of the long term implication of this debt overhang.

 

http://money.cnn.com/2009/05/27/news/mortgage.overhang.fortune/index.htm?postversion=2009052716

 

I don't have figures for Canada, but I am convinced that it is similar since I saw a chart previously of debt to personal income and it was very similar to the U.S.

The implication should be low growth going forward for developed nations especially if interest rates are higher. Now you have oil rebounding and more importantly gasoline prices. Two big taxes on a levered consumer somehow worried about his or her job.

 

The Fairfax guys must have a lot fun. I am sure that they are taking gains in financials and probably also into these munis. We have to remember that Prem became a bull after the market corrected massively in November. The bad news was priced in. However, he was still cautious not to say negative on the economy going forward thinking that it would be a long recovery process. If security prices move more rapidly than the economy, you can be sure that he is looking for the exits.

 

Cardboard  

[Guest Broxburnboy]

Don't forget fear of inflation... now that deflationary fears are abating and if the government is successful in reinflating the debt bubble, who knows what the real purchasing power of 1000.00 bucks 30 years from now will be. My guess is that prices on long treasuries will continue to slide and shortly so will short term government debt as there are now more options for the safe haven money... like munis guaranteed by BRK. Volatility in the bond market plays right into Prem's hands...it is definitely FFH's sweetspot.

[bookie71]

Another consideration is that IF you think tax rates will be raised, then the value of tax free municipal bonds will increase.

[Partner24]

When FFH announced their munis backed by Berkshire buying and the before taxes equivalent rate they got on them, I tought it was absolutely brillant and was delighted. My father is very busy, so I try to not bother him with his holdings news, but I was so much delighted that I came with a smile on my face at his office room to announce him the news.

 

These munis could be down in value today, it wouldn't change my tought. It was fundamentaly a very winning risk/reward combination.

 

That being said, your charts are very impressives. What a so much short period of time can do is mind blowing. We live in crazy times!

 

Thanks for sharing them!

 

Cheers!

[Santayana]

This is going to be affecting everyone's borrowing costs.    Could be a very rough 3rd quarter for a lot of businesses if the rates don't come back down.

 

It's pretty clear that the Fed has no control over interest rates.    I really don't have any idea what happens next, but if rates do keep spiking, the worry does become deflation rather than inflation.

[SharperDingaan]

 

We would suggest that the US is starting to approach its borrowing limit, & is now having to compete with the other sovereigns for a shrinking pool of funds.

 

 

[oldye]

"It's pretty clear that the Fed has no control over interest rates.    I really don't have any idea what happens next, but if rates do keep spiking, the worry does become deflation rather than inflation."

 

Looks to me like the fed has a pretty tight lid on short term rates... you are right that high rates have a deflationary impact on the economy but if we do have deflation you end up with very low treasury rates like we had late last year.  The treasury markets are reacting to North Korea redeclaring war, military conflicts are very expensive.  

[gaf63]

FFH said that the ave. yield of the munis was 5.79%.  If their tax rate is 35% , this

equals 8.9% b4 tax and they are secured by BRK.

Capital gains or no , I  think they will hang on to the munis and keep collecting the 237 mil/yr

 

 

 

 

[Viking]

Cardboard, I liked the article. Bottom line, asset values are rapidly declining but total debt outstanding is not. I also expect that FFH has been opportunistic and booked some profits given the size of the move in stocks and bond yields.

 

Broxburnboy, perhaps inflation expectations are playing into yields moving higher. I do not think inflation is a risk and at some point later this year people will start to realize that it will take years to work through this thing and that deflation is the real issue and we will have a repeat of last Nov (lower stocks, lower treasury yields and a higher US$) although perhaps it will not be so severe.

 

gaf63, very good point and makes sense. However, if treasury yields continue to move higher and muni yields continue to move lower (due to tax advantages) I would be surprised if FFH did not sell some muni and shift to treasury. (Although the BRK guarantee got me thinking... should armageddon happen, perhaps BRK is a better counterparty than the federal government?)

 

I also thought about the gang at Hoisington... they may yet prove to be right (US treasury yields  will trade lower for an extended period) but the volatility must be gut wrenching!

[wabuffo]

well - one point of view would be that the 10-year and 30-year yields on 12/31/08 were outliers and we are now moving back to a more normal (in terms of recent history) yield on the long-end of the Tsy yield curve.   A 2% 10-year and 2.5% 30-year might have been fear of holding any debt other than US Treasury debt in the Oct 2008-Feb 2009 credit freeze.

 

I think we are just seeing the effects of the credit freeze now thawing -- a positive sign for the US economy.

 

In addition, a hugely positively sloping yield curve (as measured by the 2yr vs 10yr yield) is very positive for the US banking sector.

 

wabuffo

 

 

[Packer16]

I think one item that Hoisington does not bring out which is very applicable is the loose monetary and inflationary fiscal policy of the US.  In all his examples of past, except Japan, there was monetary deflation (via the sterilization of gold reserves due to concerns about inflation).  Japan has a very savings oriented culture and declining requirement for capital as there population is shrinking.  The surplus of savings/capital has led to low interest rates and deflation in prices. 

 

Much of the US is opposite of this case.  With a growing and spending culture that is only being restrained by debt levels and interest rates on that debt.  Inflation caused be devaluation (not the push cost push inflation of the 70s) is much more possible and likely in the US situation - similar to many countries in Asian crisis.  The developed world is not use to this type of inflation and thus its policies do not consider this type of scenario.  This inflation will be made worse by gov't policy that is trying to establish state regulation and "ownership" over a large portion of the economy (health care and autos) that push costs higher (MPG regulation and cap and trade regulation) and gov't spending via large deficits.   

 

Packer

[Guest Broxburnboy]

 

Broxburnboy, perhaps inflation expectations are playing into yields moving higher. I do not think inflation is a risk and at some point later this year people will start to realize that it will take years to work through this thing and that deflation is the real issue and we will have a repeat of last Nov (lower stocks, lower treasury yields and a higher US$) although perhaps it will not be so severe.

 

What is happening is that we are having deflation and inflation simultaneously... it is not a case of either/or. Assets on the balance sheet are deflating as a result of delevering. Costs on the income statement continue to rise. On a personal level these two trends manifest themselves in our personal financial statements. For example, the notional value of everyone's home has taken a hit  (mortgages were acquired based on inflated market value instead of depreciated book value), but the monthly costs to maintain it have not. Our net worth has taken a hit through delevering, and the real measure of wealth, monthly cash flow, has not benefited from deflation. On all balance sheets their has been no provision for share of burgeoning government debt... there are homes in California and elsewhere in insolvent municipalities, attached to insolvent state governments. Should you purchase a home so located, prices must be adjusted downward for this growing negative equity attached to your property.

 

Viking, you may be right about lower stocks and low treasury yields this fall, but if that is the case the safe haven money  will be gone and the US dollar will be significantly weaker. It is clear that there are more secure stores of value than a dilluted US dollar in a stagnant economy.

[wabuffo]

What is happening is that we are having deflation and inflation simultaneously.

 

How is that possible.  Inflation/deflation is a strictly monetary phenomenon and is all about the value of the US dollar as medium of exchange.  You can't have both -- just like one can't be fat and skinny at the same time.

 

wabuffo

[Guest Broxburnboy]

What is happening is that we are having deflation and inflation simultaneously.

 

How is that possible.  Inflation/deflation is a strictly monetary phenomenon and is all about the value of the US dollar as medium of exchange.  You can't have both -- just like one can't be fat and skinny at the same time.

 

wabuffo

 

Those are the strict definitions, but the most common use of the term inflation is in regard to price inflation (usually as measured by CPI) and my comments were regarding that use of the word. I stand corrected, and ask that you substitute the term "price inflation" for the word "inflation" in my comments. In regards to being fat&skinny at the same time .. this is the reported current state of the whole economy!