Friday, December 11, 2009

Treasury Yields Rise as Curve Steepens

from Bloomberg:

By Cordell Eddings and Susanne Walker

Dec. 10 (Bloomberg) -- Treasuries fell, with the gap in yields between 2- and 30-year securities reaching the widest margin since at least 1980, after a $13 billion offering of 30- year bonds drew lower-than-forecast demand.

The so-called yield curve touched 373 basis points, the most in at least 29 years, as the bonds drew a yield of 4.52 percent, compared with an average forecast of 4.483 percent in a Bloomberg News survey of five of the Federal Reserve’s 18 primary dealers. The so-called yield curve has widened from 191 basis points at the end of 2008, with the Fed anchoring its target rate at a record-low range of zero to 0.25 percent and the Treasury extending the average maturity of U.S. debt.

“This was a mediocre auction where the yield needed to be tweaked a little on the high side to get it done,” said William Larkin, a fixed-income portfolio manager in Salem, Massachusetts at Cabot Money Management, which manages $500 million. “It’s an indication of what’s to come in 2010. We expect a gradual uptick to higher yields.”

The yield on the current 30-year bond rose eight basis points to 4.49 percent at 4:11 p.m. in New York, according to BGCantor Market Data. Two-year note yields increased one basis point to 0.76 percent.

Treasury officials on Nov. 4 announced a long-term target of six to seven years for the average maturity of Treasury debt and said the department wants to cut back on its issuance of bills and two- and three-year notes. The shift to longer- maturity debt has raised concern that investors will demand higher yields to offset the risk of inflation as government spending drives the deficit to a record $1.4 trillion.

‘Piling on Out’

“The curve reflects the Fed taking short-term rates as low as it can go and the Treasury piling on out the curve,” said Ward McCarthy, chief financial economist at Jefferies & Co. Inc. in New York. Jefferies is one of 18 primary dealers required to bid at Treasury auctions. “While there is a strong overseas underwriting bid for 5s, 7s and 10s, the bond overwhelmingly is a domestic issue. The slope of the curve reflects the concession necessary to attract sufficient buyers to take the issue down.”

The spread between 2- and 30-year has averaged 132 basis points over the last five years. Historically, a so-called steeper yield curve reflects diminishing demand from investors anticipating faster economic growth and inflation.

Treasury two-year note yields fell 11 basis points over the first two trading days of this week as Fed chairman Ben S. Bernanke repeated that the central bank expected an “extended period” of low rates and Fitch Ratings reduced Greece’s credit rating. The yield touched 0.69 percent on Dec. 8, a level last seen on Dec. 2, two days before it surged the most since August after a report showed the U.S. economy lost fewer jobs than forecast in November.

Unable to Absorb

“Easy monetary policy coupled with loose fiscal policy and sovereign credit concerns easily explain the steep curve,” said Brian Varga, head of U.S. Treasury bond trading in New York at Standard Chartered Plc.

The bid-to-cover ratio at today’s auction, which gauges demand by comparing total bids with the amount of securities offered, was 2.45, compared with an average of 2.38 at the last 10 auctions.

Indirect bidders, an investor class that includes foreign central banks, bought 40.2 percent of the notes at today’s auction. They purchased 44 percent at the November sale. The average for the past 10 auctions is 40.4 percent.

“As we are seeing, if foreign investors don’t step into the bidding process, then the Street is not able to absorb the debt, so concessions make it now beneficial to start participating,” said Michael Franzese, managing director and head of Treasury trading at Wunderlich Securities in New York.

$7.17 Trillion

U.S. government debt lost investors about 2 percent this year, according to Bank of America Corp.’s Merrill Lynch Treasury Master Index, as President Barack Obama borrowed record amounts to fund spending programs. U.S. marketable debt rose to a record $7.17 trillion in November.

U.S. government securities declined yesterday after an investor class that includes foreign central banks bought the least amount of 10-year notes since June at the government’s auction.

The $21 billion offering drew a yield of 3.448 percent, compared with an average forecast of 3.421 percent in a Bloomberg survey. The bid-to-cover ratio, which gauges demand, was 2.62, less than an average of 2.63 at the past 10 auctions.

Indirect bidders, which include foreign central banks, purchased 34.9 percent of the 10-year debt on offer, compared with an average of 45.6 percent since the Treasury made changes in June on how bids are classified.

The previous day’s sale of three-year notes drew a yield of 1.223 percent, compared with a forecast for 1.229 percent.

Yield Curve Steepest in Nearly 30 Years!

from Mish Shedlock:

The bond market is starting to show signs of concern over budget deficits and the corresponding supply of treasuries. Please consider Treasury Yield Curve Steepest Since at Least 1980 After Auction.

Treasuries fell, with the gap in yields between 2- and 30-year securities reaching the widest margin since at least 1980, after a $13 billion offering of 30- year bonds drew lower-than-forecast demand.

The so-called yield curve touched 372 basis points, the most in at least 29 years, as the bonds drew a yield of 4.52 percent. The so-called yield curve has widened from 191 basis points at the end of 2008, with the Fed anchoring its target rate at a record-low range of zero to 0.25 percent and the Treasury extending the average maturity of U.S. debt.

Treasury officials on Nov. 4 announced a long-term target of six to seven years for the average maturity of Treasury debt and said the department wants to cut back on its issuance of bills and two- and three-year notes. The shift to longer- maturity debt has raised concern that investors will demand higher yields to offset the risk of inflation as government spending drives the deficit to a record $1.4 trillion.

“The market is continuing to worry about the massive amount of Treasury issuance that’s going to hit the market well into next year,” said Ian Lyngen, senior government bond strategist at CRT Capital Group LLC in Stamford, Connecticut. “In the very short term, part of it is going to be supply accommodation.”
Yield Curve As Of December 10 2009

Historical Yield Curve

click on any chart in this post for sharper image

Chart Symbols
$IRX - The 3 month treasury - Brown
$FVX - The 5 year treasury - Blue
$TNX - The 10 year treasury - Orange
$TYX - The 30 year treasury - Green

A 2 year treasury symbol is not available.

The above chart shows the dramatic steepening in the yield curve since January 2009. This steepening is reflective of several things: An economy presumed to be improving but not at a very good rate, the Fed holding down short-term rates, and the huge pending supply of treasuries to finance the budget.

Judging from action in the 5-year treasury, it appears as if there is a long 3-to-5 year, short 30-year trade in play.

Even with that steep yield curve, banks are not lending judging by the plunge in consumer credit and small business loans.

Total Consumer Credit

click on chart for sharper image

Total Bank Credit

click on chart for sharper image

Total bank credit is starting to rebound but from depths never before seen.

US$ Weekly Chart

click on chart for sharper image

2010 Forecast - The Great Retrace

That segment with Aaron Task is from Mish: Nov. Jobs Report "Looked Fabricated", Expect Harder Times in 2010
From President Obama on down, Americans are hoping Friday's stronger-than-expected November jobs report marked the beginning of the end of our national unemployment nightmare. Looking beyond the November jobs data, Shedlock says the odds of the unemployment rate coming down anytime soon are remote.

As confident as he is about the grim outlook for jobs, Shedlock was very reticent to make market predictions in the accompanying video, taped Friday evening at Minyanville's annual Holiday Festivus in New York City.

In a subsequent email, Shedlock was more willing to take a position, as is more typical of the opinionated blogger:

"In the absence of a war outbreak in the Middle East or Pakistan -- and/or Congress going completely insane with more stimulus efforts -- I think oil prices are likely to drop, the dollar will strengthen or at least hold its own, and the best opportunities are likely to be on the short side," he writes. "2010 is highly likely to retrace most if not all of the ‘reflation' efforts of 2009. If things play out as I suspect, 2010 will be the year of the great retrace as the economic recovery disappoints."
If the US$ breaks North in a sustained way as it appears poised to do, and if treasury yields break higher as well (on that I have no firm opinion), 2010 is going to be one miserable year for nearly everyone.

Note that a seasonal favorable period for treasuries ends this month. Moreover, March-May is typically the worst period for government bonds because of budgeting and tax refunds. However, one should not lightly dismiss the possibility of another flight to safety play if commodities and equities head dramatically lower as I ultimately expect them to do.

Gold Vs. the Dollar

US Dollar -- stoutly higher

Gold -- more selling

Thursday, December 10, 2009

As Much Chance That Valentines Day Saved the Economy

By Steve Chapman

This is that wonderful time of year when a roly-poly, white-bearded fellow descends from the North Pole to lavish us with presents. So when President Obama follows suit, maybe it's just his way of getting into the spirit of the season.
He sounded uncannily like Santa Claus the other day in a speech taking credit for creating and saving 1.6 million jobs and vowing to do even more. The recent uptick in the economy and dip in unemployment, the president announced, came about because of the $787 billion economic stimulus package he signed last February.

But with unemployment still at 10 percent, Obama perceives a need for the government to generate additional jobs -- which he plans to do with a new collection of tax cuts, public works expenditures, subsidies to homeowners for energy-saving investments, and a partridge in a pear tree. Though he stressed his commitment to fiscal responsibility, the president studiously avoided putting a price tag on this plan.
Like a certain jolly old elf, he doesn't want us to worry about the cost. After all, fiscal stimulus is supposed to more than pay for itself by goosing consumption expenditures to unleash a new surge of jobs, economic activity and tax revenue. It's a Christmas that will go on for months or even years.
If only it were true. In fact, there is no reason to believe the American Recovery and Reinvestment Act has done anything to revive the economy. Economist John Taylor of the Hoover Institution at Stanford University reports that the economic data show "no noticeable impact of the temporary tax rebates and one-time payments on consumption." No impact, by the way, is pretty much what we got when President Bush tried a stimulus in 2008.
The administration's allies crow that in the six months before the package was approved, the economy shrank, and in the six months after, the economy grew. But just because football season follows baseball season, that doesn't prove baseball causes football. Just because the economy grew after the stimulus passed doesn't mean the stimulus deserves the credit.
Considering the claims of stimulus supporters, John Cochrane, a macroeconomist at the University of Chicago Booth School of Business, says, "There is just as much evidence that Valentine's Day saved the economy." What the advocates disregard, he notes, is that every dollar spent on federal programs is a dollar that is not invested or spent elsewhere. An extravagant program can create jobs in one place only by endangering them in another.
Even by the administration's logic, the success story doesn't hold up. The contraction of the economy slowed sharply in the first month after the passage of the stimulus -- before any appreciable amounts of federal cash had been spent. Which suggests that the economy, far from requiring huge injections of federal cash to avert a depression, was already bouncing back on its own, something economies did for eons before Keynesian prescriptions came along.
What has happened since then doesn't make the case for buying a second round. Apparently the recession has already ended and unemployment has begun to fall -- despite the fact that most of that $787 billion is doing about as much stimulating as the gold in Fort Knox. Only about one-third of the money has actually gone out the door.
If one-third of the stimulus spending was potent enough to rekindle growth, shouldn't the other two-thirds be even more effective? Why do we need to throw more tens or hundreds of billions on the fire when it's already starting to blaze? On the other hand, if the first stimulus fizzled, as the evidence suggests, it makes no sense to do a sequel.
Either way, there's precious little to be said for opening the throttle of a federal spending machine that is already hurtling out of control. But there's a lot to be said against it. Every big new appropriation represents money that has to be paid back with interest, on top of the $12 trillion we already owe.
Whatever else it may do, piling up more debt brings us closer to the day when the government will have to choose among such dire options as vastly increasing taxes, resorting to inflation and defaulting on its obligations. If that day comes, Santa Claus may be hard to find.

That's Hyperinflation for You!

Look at this image. It is a $100 trillion bill from Zimbabwe.

In 1980, it was worth more than the U.S. Dollar. Now, its worthless!

They printed more and more money until they destroyed the currency and their economy. Zimbabwe now has an unemployment rate of 94%.

That's where we appear to be headed.

What's "Responsible" About Defaulting on Debt?

Jonathan Hoenig calls out the error of Geithner's doublespeak:

In a letter to House Speaker Nancy Pelosi, Treasury Secretary Tim Geithner outlined how, by extending the Troubled Asset Relief Program (TARP), government would “continue to mitigate foreclosure for responsible American homeowners as we take the steps necessary to stabilize our housing market.”
It’s doublespeak on the highest level. Geithner isn’t talking about actual “responsible homeowners,” who, of course don’t need foreclosure mitigation because they’re actually paying their mortgages. Not for a moment would we ever consider someone not paying their Visa bill to be a “responsible credit card holder,” yet for some reason that’s how our government now refers to those who aren’t paying their mortgage.
Words aren’t subjective whims…they have meaning we use to consider, conceptualize and communicate. So call these individuals distressed or delinquent – but to refer to them as “responsible” represents nothing short of the willing suspension of reality. Those not paying their commitments are, by definition, not responsible homeowners. Secretary Geithner graduated from Dartmouth College and Johns Hopkins University – you’d assume he’d know that.
Geithner's interest in extending TARP – and the control it affords – is far from a surprise. After all, as we pointed out before he was even sworn in, it was Geithner who kicked off the vicious bailout cycle with the $29 billion pledged back in March of 2009 to help JP Morgan (JPM: 41.09*, -0.10, -0.24%) buy Bear Stearns. That amount seems like chump change now. AIG’s bailout was also enacted under his direction.
And amid all the promises, pledges and payments, we again learned that reality exists regardless of how much our government tries to paper it over. Calling delinquent homeowners “responsible” doesn’t change their payment behavior, nor does enacting programs which subsidize their behavior by transferring wealth from those who are paying their mortgage to those who are not.
The administration’s own oversight panel reports efforts to prevent foreclosure have seen limited success. Of the nearly 680,000 borrowers entered into taxpayer-subsidized trial mortgage modifications, nearly 30% aren’t making their (now) reduced payments.
TARP was originally created by Secretary Henry Paulson, who, to quote the previous president, “abandoned free-market principles to save the free-market system” and was intended, misguidedly so, to purchase the toxic asset off the books of leading financial institutions.
Soon after adoption, the plan quickly morphed into direct capital infusions, essentially a stealth partial-nationalization. President Bush declared that TARP funds could be spent on any program deemed necessary to stem the financial collapse, leading to billions being sunk into the auto industry, and eventually the two biggest manufacturing bankruptcies in U.S. history (GM and Chrysler). Now TARP is being considered for use by government for job creation.
Geithner, along with much of our political leadership on both sides of the aisle, are pragmatists, meaning they believe what’s moral is whatever works. There are no absolutes or truths, exactly why they see nothing wrong -- once again -- confiscating money from those who’ve earned it and giving it to those who have not, regardless if it’s Acorn, the banks, AIG, Chrysler or defaulting homeowners. Anything goes.
Does it work? Despite all government’s intervention, real estate has still corrected, unemployment has still shot up and the economy has still slowed. What has grown is government control, regulation and budget deficits. About the best thing TARP's defenders can say is that the world didn't melt down after it was passed. What kind of defense is that?
As traders, we’re accustomed to dealing with the facts of reality every day. Pity our own leaders don’t see themselves as bound by the same objective absolutes.
Jonathan Hoenig is managing member at Capitalistpig Hedge Fund LLC.

Dollar Index Volume Hits New All-Time Record

from ICE:
ATLANTA, Dec 10, 2009 /PRNewswire-FirstCall via COMTEX News Network/ -- ICE Futures U.S., a leading regulated U.S. futures exchange for global agricultural, equity index and currency markets, reported record daily volume in its U.S. Dollar Index (USDX) futures contract of 74,562 contracts on Wednesday, December 9.
(Logo: )
Daily volume in the USDX exceeded by more than 35% the previous record of 54,625 contracts established on Friday, December 4, 2009. The notional value of USDX contracts traded on December 9 was more than $5.6 billion and included nearly 10,000 Trade at Settlement (TAS) contracts, which is also a record.
USDX futures trade exclusively on the ICE trading platform 22 hours a day. Real-time prices for USDX futures are available at no cost on the ICE website following a one-time registration.
Introduced in 1985, the U.S. Dollar Index is the leading global benchmark for the international value of the U.S. dollar. The futures contract on the USDX is the world's most heavily traded currency index futures contract.

Wednesday, December 9, 2009

Todd Harrison: The Future Ain't Pretty

from Minyanville:
For some, it's a longing for simpler times when an assimilation of primary trading metrics allowed for honest pay after a long day. For others, it's an opportunity to unleash vitriolic criticism on anyone and anything associated with Wall Street. Pick a side or stand aside, people, the nation is dividing as we speak.
I believe history books may one day look back at Shock & Awe -- or perhaps, 9/11 -- as the beginning of World War III when it was broadcast on CNN.
I'm not talking about a nuclear winter; I'm simply saying the entire global dynamic seismically shifted towards that short stretch of time and the needle is now pointing in an entirely unfortunate direction.
Society acrimony to social unrest to geopolitical conflict; it's a tri-fecta that won't pay off for anyone.
I share these thoughts with genuine intentions. When I read stories about Goldman Sachs Group /quotes/comstock/13*!gs/quotes/nls/gs (GS 166.70, +0.26, +0.16%) employees arming themselves with pistols so they're equipped to defend against a populist uprising, I take notice.
When I see Ahmadinejad thumb his nose at the U.S and Russia -- and call out Israel, which already has an itchy trigger finger -- I take notice.
When benevolent gestures and philanthropic efforts are immediately met with suspicion and distrust, I take notice.
I view the world through a somewhat binary lens. On one side, there's painful yet inevitable debt destruction that will eventually lead to a prosperous outside-in globalization. That scenario requires lower asset classes, a higher dollar and a lot of patience. The U.S likely won't lead the world higher but that's all right; a little humility will go a mighty long way.
On the other side, there is more credit creation, more stress on the system and cumulative imbalances that are destined to manifest in a meaningful way. I'm not smart enough to know how or when, but the "why" is self-evident. When the next phase of crisis arrives, it will be one of confidence that could shake our socioeconomic construct to the core.
Harsh? Yeah, it is. Imminent? It doesn't feel that way, and corporate credit markets suggest it's not. Looming and ever-present? You betcha, and I'll again use the magic word: cumulative . As social mood and risk appetites shape financial markets, we would be wise to watch for the next progression of problems, be it sovereign defaults, state bankruptcies or commercial real estate.
There are, as always, two sides to every trade and the bullish bent is akin to a relay race; the government-sponsored euphoria handed the baton to corporate America (who rolled mountains of debt and issued tons of equity) and the transfer of risk will land in the lap of an unsuspecting public. Yes, the best-case scenario doesn't cure the underlying disease; it simply masks the systems and pushes risk further out on the time continuum, perhaps all the way to our children.
Know this; it's of no benefit to me or my business to communicate this view but I'll always give it to you straight, sometimes right, sometimes wrong and always honest. I offer these thoughts not only to open some eyes, but also to ask for help. As we're apt to say, if you're not a part of the solution, you're part of the problem and society is simply a sum of those parts.
Now, more than ever, we need proactive problem solvers as we edge ahead through this uncertain world.

Tuesday, December 8, 2009

Mish Shedlock Takes It to Cleveland Fed

from Mish Shedlock:
A couple weeks ago I received an email from the Cleveland Fed on A New Approach to Gauging Inflation Expectations.

People’s expectation of inflation enters into nearly every economic decision they make. It enters into large decisions: whether they can afford a mortgage payment on a new house, whether they strike for higher wages, how they invest their retirement funds. It also enters into the smaller decisions, that, in the aggregate, affect the entire economy: whether they wait for the milk to go on sale or buy it before the price goes up.

Real interest rates also play a key role in many economic decisions. When businesses invest—or don’t—in plants and equipment, when families buy—or don’t—a new car or dishwasher, they are making judgments about the real return on the object and the real cost of borrowing. As such, real interest rates can be an important guide to monetary policy. As Alan Greenspan once explained,1 keeping the real rate around its equilibrium level (which is determined by economic and financial conditions), has a “stabilizing effect on the economy” and it helps direct production “toward its long-term potential.”
I was told that I could set up an interview with Joseph Haubrich, vice president at the Federal Reserve Bank of Cleveland about his model. I tried to setup an interview but was directed to send my questions by email instead.

Here there are...

Inflation Expectation Questions For Joseph G. Haubrich

1. When was the last time you bought a computer? Did you expect prices to drop? Did you buy a computer anyway?

2. When was the last time you bought a flat panel monitor or TV? Did you expect prices to drop? Did you buy them anyway?

3. If you expected the price of steaks to keep rising, would you buy a years’ worth? Six months worth? Do you even have a freezer?

4. If you expected the price of milk to keep rising, how much supply would you keep?

5. Do you have a storage tank for gasoline when you expect gas prices to keep rising?

6. If your refrigerator was in good shape would you buy another one if you thought they were going up in price.

7. If your refrigerator, microwave, TV, or even car went out, would you buy them or wait if you thought prices would drop?

8. I keep hearing how inflation expectations will cause people to buy consumer items, or deflation concerns cause people to not buy consumer items, but in light of the above practical test questions doesn’t that seem to be a potty notion?

9. What about asset prices? Would people buy stocks if they thought they were going up? Houses? This one I will answer for you (you bet).

10. Does the Fed factor in asset prices into its inflation expectations? If so how? Did not the Fed completely ignore a housing bubble? In fact, isn’t it true the Fed could not see a housing bubble that 100 housing blogs could see?

11. Given that the Fed ignores asset bubbles, commodity speculation, etc (the only areas in which people actually do things simply because they expect prices to rise or fall) while focusing on consumer price expectations that have no bearing on what people do, doesn’t the Fed have its inflation policy ass backwards?

12. Isn’t it silly to actually think inflation expectations 30 years out matter one iota?

13. Given that the Fed has blown bubble after bubble of increasing amplitude, ignoring the problems until they blew up in the Fed’s face, with Bernanke denying there was a housing bubble, then denying there would be a recession, then coming up with preposterous unemployment expectations, pray tell exactly why should anyone believe the Fed can model inflation expectations or even inflation as it is actually happening?

14. If the Fed thinks that market expectations are important, why not simply let the market set interest rates?

15. How could letting the market set rates possibly be any worse than the repetitive bubbles the Fed blew under Greenspan and Bernanke?

16. Pray tell of what use is the Fed other than to bail out banks when they get in trouble? And of what use is that to anyone but the banks?

17. I would appreciate your comments on The Fed Uncertainty Principle, written Thursday, April 03, 2008, before the massive bailouts occurred.
The Observer Affects The Observed

The Fed, in conjunction with all the players watching the Fed, distorts the economic picture. I liken this to Heisenberg's Uncertainty Principle where observation of a subatomic particle changes the ability to measure it accurately.

To measure the position and velocity of any particle, you would first shine a light on it, then detect the reflection. On a macroscopic scale, the effect of photons on an object is insignificant. Unfortunately, on subatomic scales, the photons that hit the subatomic particle will cause it to move significantly, so although the position has been measured accurately, the velocity of the particle will have been altered. By learning the position, you have rendered any information you previously had on the velocity useless. In other words, the observer affects the observed.

Fed Uncertainty Principle: The fed, by its very existence, has completely distorted the market via self reinforcing observer/participant feedback loops. Thus, it is fatally flawed logic to suggest the Fed is simply following the market, therefore the market is to blame for the Fed's actions. There would not be a Fed in a free market, and by implication there would not be observer/participant feedback loops either.

Corollary Number One: The Fed has no idea where interest rates should be. Only a free market does. The Fed will be disingenuous about what it knows (nothing of use) and doesn't know (much more than it wants to admit), particularly in times of economic stress.

Corollary Number Two: The government/quasi-government body most responsible for creating this mess (the Fed), will attempt a big power grab, purportedly to fix whatever problems it creates. The bigger the mess it creates, the more power it will attempt to grab. Over time this leads to dangerously concentrated power into the hands of those who have already proven they do not know what they are doing.

Corollary Number Three: Don't expect the Fed to learn from past mistakes. Instead, expect the Fed to repeat them with bigger and bigger doses of exactly what created the initial problem.

Corollary Number Four: The Fed simply does not care whether its actions are illegal or not. The Fed is operating under the principle that it's easier to get forgiveness than permission. And forgiveness is just another means to the desired power grab it is seeking.
Those were my 17 questions for Joseph Haubrich and the Cleveland Fed. I sent them about a week ago. If I get a reply I will post it. However, I am not holding my breath.

The Muni Bond Bubble

from Mish Shedlock:

In New Jersey, governor-elect Christie opposes (and rightfully so), the state going deeper in debt but that is not stopping the current administration of Jon Corzine.

Please consider N.J. to Borrow $200 Million Amid Incoming Governor’s Opposition.

New Jersey, the third-most indebted U.S. state, will sell more than $200 million in bonds today to finance voter-approved capital projects a week after Governor- elect Christopher Christie said he opposed borrowing more money.

The state will issue $209.1 million of bonds, including $205 million of tax-exempt securities, the largest such competitively bid offering in the market today, according to Bloomberg data. Christie, a Republican who defeated Democratic incumbent Jon Corzine last month, said he opposed new bond sales after the state last week detailed $2.7 billion in borrowing it plans for the remainder of the fiscal year, which ends in June.

The state’s bond sale today will finance clean water and open-space preservation projects, according to a preliminary official statement. The state is also planning to sell $1.4 billion of bonds for transportation and $1.1 billion for school construction before June 30, according to a Nov. 30 report.

Christie, 47, a former U.S. attorney, told Bloomberg News last week that New Jersey “can’t have any more debt” and that any projections for borrowing will be “rendered meaningless” when he takes office on Jan. 19.

New Jersey has $36.5 billion of gross tax-supported debt, the third highest of the 50 states, according to a report released in July by Moody’s Investors Service. Moody’s rates the state’s bonds Aa3, the fourth highest ranking. California has the most, at $75.2 billion.

New York City is leading the municipal market this week as issuers seek to borrow more than $10 billion, according to Bloomberg data. New York, the largest borrower among U.S. cities, is selling $1.4 billion of taxable and tax-exempt securities, including $616 million of Build America Bonds. By yesterday, the city had taken orders from individual investors for $440 million of the tax-exempt bonds, and for $20 million in Build America Bonds that it expects to finish pricing on Dec. 10, according to Ray Orlando, a spokesman for the city Office of Management and Budget.

Yields on conventional 20-year municipal debt fell to an eight-week low of 4.24 percent, down 1.34 percentage points from a year ago, according to a weekly Bond Buyer index.
New Jersey Perspective

New Jersey has $36.5 billion of gross tax-supported debt.
California has $75.2 billion of gross tax-supported debt.
New Jersey has a population of 8,682,661.
California has a population of 36,756,666.

Let's do the math.
New Jersey has 23.6% of the population of California and 48.5% of the tax supported debt.

Municipal Bond Bubble

It is not just New Jersey going nuts, California clearly did as well, and cities like New York are in deep trouble.

The city of Vallejo, California fired a huge warning shot by declaring bankruptcy. However, that warning shot has largely been ignored.

Given there is no realistic way for this debt to be paid back, municipal bonds are in a bubble.

People are chasing municipals because of tax exempt status but they are not compensated for for the risk. Please consider the following table courtesy of Investing Bonds

Assuming a 28% tax bracket, the effective yield on a 4% yield muni is 5.56. 20 year treasuries are yielding about 4%. A lousy 1.5% is all you get for the additional risk that a municipal bond blows up. I hardly see how it can possibly be worth it.

Although there is no provision for states to declare bankruptcy (there should be), cities, municipalities, and counties can.

I expect several counties in Florida to default. Major cities like Houston are a distinct possibility as well. Please see City of Houston is Bankrupt (So are California, Oregon, and Pension Plans in General) for details.

When counties and counties start declaring bankruptcy, municipal bond yields are going to soar across the board.

If there is little to no compensation for this risk (and there isn't), then why take it? As with the "free lunch" of Asset Backed Commercial Paper, investors are going to learn the hard way once again.

Treasury Sells Debt at 0.0%!

from Arlan:
Treasury Dept. sells $29 bln in 4-week bills at 0.0% interest this AM. Think some people may feel nervous about economy?

I wonder what will happen when they become nervous about U.S. government debt! What will happen then? Hyperinflation, as everyone flees for the safety of hard assets? The above downward spike in treasuries occurred just as the treasury auction was completed.

US, UK Credit Ratings at Risk

from Bloomberg:

Dec. 8 (Bloomberg) -- Moody’s Investors Service said its top debt ratings on the U.S. and the U.K. may “test the Aaa boundaries” because their public finances are worsening in the wake of the global financial crisis.
The U.S. and U.K. have “resilient” Aaa ratings, as opposed to the “resistant” top ratings of Canada, Germany and France, analysts led by Pierre Cailleteau in London said in a report. None of the top-rated countries is “vulnerable,” or have public finances that are “stretched beyond the point of ‘no return’ to the Aaa category,” New York-based Moody’s said.
The dollar weakened to 88.60 yen, from 89.51 yen, and strengthened to $1.4795 per euro from $1.4827. The pound fell against all 16 most-traded counterparts, dropping to $1.6289, from $1.6446. It weakened to 90.83 pence per euro, from 90.16. U.K. bonds rose, pushing the yield down 8 basis points to 1.08 percent, the biggest drop since Nov. 9.
“There has been a huge increase in debt-to-gross-domestic- product ratios as a result of the crisis,” said David Keeble, head of fixed-income strategy in London at Calyon, the investment-banking unit of Credit Agricole SA. “It’s right that there should be a lot of attention and pressure on these numbers.”
The U.S.’s debt burden will climb to 97.5 percent of gross domestic product next year from 87.4 percent, the Organization for Economic Cooperation and Development forecast in June. National debt in the U.S. climbed to $7.17 trillion in November. The U.K.’s public debt will swell to 89.3 percent of the economy in 2010 from 75.3 percent this year, according to the OECD.
‘Resistant’ Countries
All Aaa rated governments are affected by the global financial crisis, with differences in their impact and ability to respond, Moody’s said. “Resistant” countries, which also include New Zealand and Switzerland, started from a more robust position and won’t see debt exceeding levels consistent with their Aaa status, Moody’s said.
Moody’s defines “resilient” countries as “Aaa countries whose public finances are deteriorating considerably and may therefore test the Aaa boundaries, but which display, in our opinion, an adequate reaction capacity to rise to the challenging and rebound.”
The cost of protecting U.S. debt from default was unchanged at 32 basis points, or $32,000 a year to protect $10 million of the nation’s bonds from default for five years, according to CMA DataVision prices. That compares with a peak of 100 basis points in February and 20 basis points in October.
Credit-Default Swaps
The cost of protecting U.K. debt from default was equivalent to that of Portugal, which is rated Aa2 by Moody’s, its third-highest grade.
Credit-default swaps on U.K. government debt cost 74 basis points, up from 72.5 yesterday, according to CMA prices. The U.K. contracts, which peaked at 175 basis points in February, rose from 44 basis points on Sept. 30, CMA prices show.
“The U.K.’s fundamentals are dismal and don’t support the ratings,” said Mark Schofield, head of interest-rate strategy in London at Citigroup Inc. “Only if some pretty draconian fiscal measures are in place will the U.K. keep hold of its Aaa rating.”
British Chancellor of the Exchequer Alistair Darling said yesterday that he would rather suffer criticism for removing support for the economy too late than too early, signaling he will put off measures to reduce Britain’s biggest budget deficit since World War II.
‘Determined Effort’
“I do think we need to make a determined effort to get our debt down,” Darling said. “I would rather be found guilty of removing the support slightly too late than slightly too early.”
The opposition Conservative Party has pledged to make reducing the budget deficit a priority if it is elected next year. The government must call an election next year.
“We can’t solve the problem of the deficit straight away, but what there’s an absence of is a credible plan,” Conservative leader David Cameron said at an event in southeast England. “If you have a government that doesn’t have the courage to tackle the deficit, that’s the risk of the double dip,” he said, referring to the possibility of a second downturn in the economy once it has exited recession.
The U.K. entered the crisis in a vulnerable position and is now facing an “inexorable deterioration of debt affordability,” Moody’s said. The government’s ability to borrow large amounts of money at favorable terms supports its ratings, according to the report.
‘Political Willpower’
The expansion of the U.S. economy won’t be enough for it to make “major progress” in reducing its budget deficit, the ratings company said.
“It’s difficult to drive a big wedge between the U.S. and U.K. in terms of their fiscal outlook,” said Calyon’s Keeble. “The flexibility that Moody’s spoke about isn’t obvious. It’s all a matter of political willpower.”
Countries with Aaa ratings aren’t likely to be downgraded anytime soon even after being “severely hit” by the global economic crisis, Moody’s said on Sept. 9. The U.K. and the U.S. have “lost altitude” in their ratings even as they remain resilient, Moody’s said in the report.

Debt Burdens Weigh World Markets


A toxic cocktail of negative economic and debt news caused a sharp slump in European bourses and US equity futures on Tuesday.
The dollar rallied on haven buying as traders reacted to heightened concerns above the ability of the Greek government to manage its fiscal deficit; fears that the Dubai debt problem was dragging on; and news that German industrial output had fallen in October.

from Marketwatch:

LONDON (MarketWatch) -- Credit-rating agency Moody's Investor Services on Tuesday warned that the United States and Great Britain may test the limits of their Aaa sovereign ratings due to deteriorating public finances.
"These are the Aaa countries whose public finances are deteriorating considerably and may therefore test the Aaa boundaries, but which display, in our opinion, an adequate reaction capacity to rise to the challenge and rebound," wrote Pierre Cailleteau, managing director of Moody's sovereign risk group, in the report.
Cailleteau divided the Aaa countries into three categories -- resistant, resilient and vulnerable.
The United States and Great Britain both fall in the "resilient" category, the report said.
"These countries are rated Aaa more because of their balance sheet flexibility than because of their current or projected debt levels over the next few years," Cailleteau wrote.

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"Resistant" countries, such as Canada, Germany and France, were weakened by the crisis but started from strong fiscal positions. They don't face a lasting challenge to their economic model or a "massive risk of crystallization of contingent liabilities," the report said.
"While resistant, they are clearly not immune," Cailleteau said. "Debt may increase, but not to the extent of stretching affordability beyond a level consistent with a Aaa status."

Monday, December 7, 2009

Traders Soon to Be Out of Business

from CNSNews:

( – House Speaker Nancy Pelosi (D-Calif.) endorsed the idea of a “global” tax on stock trades and other financial transactions, saying the estimated $150 billion in annual revenue from such a tax could be used to help fund more stimulus spending.

At her weekly press briefing on Thursday, Pelosi said the financial transactions tax (HR4191) currently before Congress would have to be made “global” to keep U.S. investors from taking their business overseas and out of taxable reach.

The House speaker said that a transaction tax could be imposed in conjunction with congressional efforts to divert funds from the Troubled Asset Relief Program (TARP), with funds from both going to fund a second stimulus spending package. (The first stimulus bill, $789-billion, was signed into law by President Barack Obama on Feb. 13, 2009.) 

“I believe that the transaction tax still has a great deal of merit,” Pelosi told reporters. “The concern that many of us or others have had is that it will send, it will send transactions overseas.

“Well, let's see, the fact is, what we are talking about is a global transaction [tax],” she said, “something that we would do in conjunction with other G nations, whether it is G8, G20, whatever the current G number is. Because it is really a source of revenue that has really minimal impact on the transaction, but a tremendous impact on helping us meet our needs.”

Pelosi said she thought the idea might have currency among a public eager to see Wall Street firms “pitching in” to help the government grow the economy.

“I think there would be a market for it among the American people to say that we are all participating in the economic prosperity of our country, and we are all pitching in to continue that prosperity,” said Pelosi.

The tax idea, the brainchild of British Prime Minister Gordon Brown, would mean that all major financial centers – Asia, the EU, U.S., and U.K. – would all have to pass a similar transaction tax to avoid disadvantaging one country’s stock exchange. This would ensure that no matter where a person wanted to buy stock, they would have to pay the new tax.

Brown originally proposed the idea on Nov. 7 at a meeting of G20 finance ministers in St. Andrews, Scotland.

Rep. Peter DeFazio (D-Ore.)
The American version, H.R. 4191, introduced by Rep. Peter DeFazio (D-Ore.), would levy a separate tax on all stock trades, futures contracts, swaps, credit default swaps, and stock options in an effort to tap the trillions of dollars of such transactions.

Seeking to circumvent concerns about further deficit spending on stimulus programs, the bill attempts to raise approximately $150 billion every year.

“The jobless recovery suggests that the Federal Government must continue to prime the economy, but the record deficit is a real obstacle,” the bill reads.

“To restore Main Street America, a small securities tax on Wall Street should be invested in job creation for Main Street,” says the bill. “This transfer tax would be assessed on the sale and purchase of financial instruments such as stocks, options, and futures. A quarter percent (0.25 percent) tax on financial instruments could raise approximately $150,000,000,000 a year.”

The transaction tax proposal was met with opposition from some House Democrats, who signed a “Dear Colleague” letter outlining their opposition to the tax and urging other members of Congress to join them.

“A $150 billion tax on financial transactions will fall on millions of hardworking Americans who are saving for their future through their 401k plans, mutual funds, pensions and other savings vehicles,” wrote Reps. Michael McMahon (D-N.Y.), Carolyn Maloney (D-N.Y.), and Debbie Halvorson (D-Ill.) in the letter, which is still being circulated on Capitol Hill, a copy of which was obtained by

“Supporters of the proposal promote it as a way to make Wall Street pay for economic stimulus, because it would apply only to stocks, futures, forwards and derivatives,” the letter states.

“In reality, it would be a tax on all investment and savings vehicles because mutual funds and money market fund transactions are, by definition, purchases and sales of securities and bonds,” it added.

The three Democrats said that the American version of the proposal would not exempt middle class Americans, as it claims to do, because while the tax would be paid by major stock brokers, those brokers would pass the cost down to everyday investors, pension, and retirement funds.

“Proponents of a transaction tax argue that a small 0.25 percent tax on stocks would be paid for by the highly paid financial traders and would not affect most Americans,” reads the letter. “This is simply not true. A tax on stock transactions would affect every single person who owns and invests in stocks from small business owners to senior citizens.”

“Americans saving for their retirement, to pay for college or ‘a rainy day fund’ to meet future emergencies will be subjected to a tax that will reduce the value of their savings at a time when they are just starting to recover the losses they incurred at the height of the financial crisis,” the letter states.

Pelosi’s office did not return calls for comment on this story.

To Roth or Not to Roth?

from WSJ:

New tax rules are about to give more people access to a Roth individual retirement account, one of the most effective vehicles in which to accumulate money for retirement or heirs.
Roth IRAs are currently off-limits to a whole group of people. Individuals with modified adjusted gross income of $120,000 or more can't contribute to one of these accounts. For married couples, the threshold is $176,000. And individuals with modified adjusted gross income of more than $100,000 and married taxpayers who file separate returns are barred from moving assets held in traditional IRAs into Roth IRAs.
[Tim foley] Tim Foley
But starting Jan. 1, Uncle Sam will permanently eliminate both the income and filing-status restrictions on transferring money from a traditional IRA to a Roth -- a procedure known as converting. So, anyone willing to pay the income taxes due upon making such a move will be able to funnel retirement savings into a Roth, where it can grow tax-free.
Money When You Want It
Under the new rules, high-income taxpayers who wish to contribute to a Roth IRA are still out of luck: Income limitations on funding these accounts will remain in effect. However, Uncle Sam's decision to allow high earners to convert will give these individuals a back-door way to fund a Roth on a continual basis.
How so? Each year, these taxpayers can open a traditional IRA (which has no income limits) and contribute the maximum (currently, $6,000 for individuals age 50 and older) on a pretax or aftertax basis. Then, they can convert the assets to a Roth IRA.
Why bother with a conversion? Roths have several advantages over traditional IRAs.
Perhaps the biggest one concerns taxes -- or a lack thereof. For the most part, withdrawals from Roth IRAs are tax-free as long as an account holder meets the rules for minimum holding periods. If you convert assets to a Roth from other IRAs or retirement plans, you have to hold those assets in a Roth for five years, or until you turn age 59½, whichever comes first, to make penalty-free withdrawals on your converted amounts. Each conversion has its own five-year clock.
Another benefit: no required distributions. With a traditional IRA, individuals are required to begin tapping their accounts -- and to pay taxes on those withdrawals -- after reaching age 70½. Roth accounts aren't subject to mandatory distributions, so the money in a Roth can grow tax-free for a longer period of time.
If you are planning to leave your IRA to heirs, Roths have yet another advantage. Although people who inherit both traditional and Roth IRAs must make annual withdrawals from those accounts (based on their life expectancies), Roth beneficiaries owe no income tax on the money.
Tax Bill Upfront
Still, there is a cost to converting to a Roth -- namely, the income-tax bill. When you withdraw money from your traditional IRA, you will have to pay income tax on the withdrawal, or, more precisely, on the portion of it that represents pretax contributions and earnings.
In 2010, Uncle Sam is offering taxpayers who convert a special deal: They can choose to report the amount they convert on their 2010 tax returns, or they can spread it equally across their 2011 and 2012 returns. (If you are worried that Congress may raise tax rates, consider paying the tax bill in 2010.)
To determine whether it makes financial sense for you to convert, it's important to consider various factors. For example, converting may be the right move if you expect to pay higher future tax rates or if the value of your IRA account is temporarily depressed, says Ed Slott, an IRA consultant in Rockville Centre, N.Y. In either case, by converting to a Roth today you'll lock in a lower tax bill than you would otherwise pay.
To estimate your potential tax bill, first calculate your "basis." Expressed as a percentage, this is the ratio of two numbers: aftertax contributions you have made to your IRAs (if any), and the total balance in all your IRAs.
For example, if you contributed $40,000 aftertax to your IRAs and have a total of $250,000 in those accounts, your basis would be 16% (or $40,000 divided by $250,000). As a result, if you plan to convert $100,000 to a Roth, 16% of that $100,000 (or $16,000) could be transferred tax-free.
Another factor is how long you can afford to leave the money in a Roth. Because the Roth's major advantage lies in its ability to deliver tax-free growth from age 70½, the longer you can afford to forego withdrawals, "the more converting plays to your advantage," says Aimee DeCamillo, head of personal retirement solutions at Merrill Lynch Wealth Management.
Before pulling the trigger, speak to a financial adviser. You also can crunch the numbers using online calculators at sites including and
Maximize the Benefit
If you determine that it pays to convert, the following strategies can help you maximize the benefit:
Financial experts say it's ideal to have money to pay the taxes due upon conversion from a source other than your IRA. That allows you to retain a bigger sum in your tax-sheltered retirement plan.
Keep in mind that you don't have to convert your entire IRA. It might make sense to do it piecemeal, as you can afford it, over a number of years.
Put converted holdings into a new account, rather than an existing Roth. That way, if the value falls after you've paid the tax bill, you can change your mind, "recharacterize" the account (meaning you move the money back into a traditional IRA) and wipe out your income-tax liability.
You have until Oct. 15 of the year following the year of conversion to recharacterize. For example, if you were to convert your IRA to a Roth in 2010, you would have until Oct. 15, 2011 to recharacterize it. Later on, you could choose to convert the assets to a Roth again.
Better still: Consider opening a separate Roth for each type of investment you hold. That way, you can recharacterize the ones that perform poorly and leave the winners alone.

While the Crisis Eases, The Risks Remain

Interesting WSJ headline this morning sent via Twitter:

Economic Crisis Ebbs, Risks Don't
Markets have bounced back. Economies are recovering. U.S. unemployment is showing signs of easing. But as the worst crisis since the Great Depression appears to be passing, we could be setting the stage for the next one.
While policy makers breathe a collective sigh of relief, they're making little progress in addressing deeper flaws that the crisis laid bare: an unwieldy banking system, unreliable financial plumbing and a global economy that encourages and depends on heavy borrowing by the U.S.