.........................

"A trader is a man who earns what he gets and does not give or take the undeserved. He does not treat men as masters or slaves, but as independent equals. He deals with men by means of a free, voluntary, unforced, uncoerced exchange—an exchange which benefits both parties by their own independent judgment. A trader does not expect to be paid for his defaults, only for his achievements. He does not switch to others the burden of his failures, and he does not mortgage his life into bondage to the failures of others." - Ayn Rand

By: Jeff Cox for
Published: Monday, 22 Feb 2010 | 2:53 PM ET

As if the credit markets aren’t already under enough pressure, the mass intrusion of state and federal debt will only make matters worse.

At a time when credit availability is at a premium, the federal government has launched its biggest series of Treasury auctions yet while more states are issuing debt in order to support their spending needs.

Consumers and businesses looking to borrow and investors trying to find a way to navigate a marketplace heading toward higher interest rates will find the conditions daunting, experts say.

“Clearly the government is not the 800-pound gorilla—it’s the 8,000-pound gorilla in the credit markets nowadays,” says Mike Larson, analyst at Weiss Research in Jupiter, Fla. “These numbers are just so mind-boggling. Really what’s going on is you have intractable debt and deficit problems in the country that neither side wants to tackle in a meaningful way, so the market is doing it for them.”

The phenomenon in which public entities push private borrowers out of the market is often referred to as “crowding out.” The result usually is higher borrowing rates and more difficult choices for investors who have to make sure they’re not putting their money in assets that are sensitive to interest rate moves.

While that problem specifically has not hit the market full bore yet, the signs for intense credit pressure are there.

“You are crowding out a lot of other borrowing from the private sector and are at the very least pushing up interest rates,” says Michael Pento, chief economist at Delta Global Advisors. “We have this huge system of artificially low interest rates and that is in the process of reversing.”

Early signs of crowding-out pressure in the credit markets have come from the latest Treasury auctions.

While 2009 saw demand for Treasurys fairly strong, the early signs in 2010 aren’t as good.

Longer-dated securities have faced weak demand so far, and the small auction Monday of 30-year inflation-protected debt that kicks off a record $126 billion debt sale this week followed the trend.

At the same time, banks have been loathe to put money on the streets as long as they can borrow at historically low levels and use Treasurys to protect capital while still seeing considerable yield.

“Instead of making loans, banks are just playing the yield curve,” Larson says. “We have such a tasty-looking spread between short-term and long-term rates, some money that otherwise would go toward lending is rebuilding balance sheets.”

The latest credit market metrics are indeed daunting for the prospects of private lending against the intense competition on the way from the public sector.

Commercial and institutional lending is off a full 20 percent while total loan volume is down by 9 percent, according to the Federal Reserve.

While there are various reasons for that trend—low demand, concerns over foreign debt ramifications on world markets and a general aversion to risk—analysts expect the influx of government debt to exert pressure than the market has seen in years.

Maryland and New York City are leading the way of municipal and state bond issues that are likely to total $2.65 billion this week. That’s a pittance compared to the federal government’s intention to auction off $2.4 trillion this year, but it’s indicative of a budding trend, particularly among East Coast governments.

“The risk premium for lending money goes up at each one of these steps,” says Walter Zimmerman, chief technical analyst at United-ICAP. “There’s too much debt and not enough appetite for debt.”

As for investors, Larson thinks the best strategy is to avoid long-term debt—be it Treasurys, corporate or high-yield bonds.

Investors can use a growing array of exchange-traded funds to short long-dated debt such as the ProShares Ultra Short 20+ Treasury [TBT ]. Some investors who don’t trust the movements of bear funds are simply shorting ETFs that are long on bonds, such as the iShares Lehman 20+ Treasury [TLT ].

Larson cautions that investors shouldn’t be too quick to bet against real estate—a market historically sensitive to rate changes—because of the numerous other dynamics involved such as inventory and price trends.

But he says the markets overall will render a very clear verdict when it comes to dealing with the high supply of debt on the way. The push higher in yields over the past year, then, could be just the beginning.

“The market is doing what you would expect,” Larson says. “It is extracting a higher premium for Treasury to buy and sell bonds.” .........................

"A trader is a man who earns what he gets and does not give or take the undeserved. He does not treat men as masters or slaves, but as independent equals. He deals with men by means of a free, voluntary, unforced, uncoerced exchange—an exchange which benefits both parties by their own independent judgment. A trader does not expect to be paid for his defaults, only for his achievements. He does not switch to others the burden of his failures, and he does not mortgage his life into bondage to the failures of others." - Ayn Rand

By Jason Farkas for
Tue, 02 Mar 2010 14:30:00 ET 

High-risk bonds compensate investors by paying higher yields than low-risk bonds. But because of the tax-free status of municipal bonds, presently municipals pay higher after-tax yields than Treasuries do. So,although many municipal bond investors believe they are being conservative by investing in tax-exempt muni debt, they actually buy municipal debt because it carries more yield than Treasuries.

This reach for yield will likely come back to bite muni investors once state finances are caught in the teeth of the next bear wave. But with interest rates near zero, can you blame investors for reaching for extra yield? Munis and muni bond funds have also been popular due to: 1) The belief that higher tax rates may be needed to pay for the government deficits, and 2) The high distributions muni bond funds pay.

Many investors are blissfully unaware of the fact that many muni funds use leverage to pay high distributions. This added layer of risk makes these funds subject to the same liquidity concerns that plague other risky assets -- and as such, many muni bond funds act similarly to stocks. This highlights Elliott Wave International’s “All The Same Market” idea once again. (In Ch. 21 of his 2002 Conquer the Crash EWI's president Robert Prechter observed an unusual correlation between the S&P, gold, silver and the CRB and postulated that those normally disparate markets moved together "as liquidity expands and contracts.” A May 2004 Barron’s article by Prechter and Kendall added junk bonds, real estate, small-cap stocks, hedge funds and emerging markets to that list -- hence, "all the same market.")

From an Elliott wave perspective, this chart of the Blackrock California Municipal Income Trust (BFZ) has two points that suggest trouble ahead for it others like it.


Dramatic fall. If you know Elliott, you can see that an impulse wave unfolded from April 2007 until December 2008. After topping before stocks in late 2006-2007, many similar funds fell as hard or even harder than the 60% drop seen here in BFZ. California isn’t alone as Pimco’s NY Muni Fund (PYN) and Van Kampen Ohio Quality Municipal Trust (VOQ) show that many muni funds trade together regardless of the issuer or manager.

Again, experienced Elliotticians among our readers will notice that BFZ has rallied in three waves from its December 2008 bottom, which puts it into the Fibonacci .618 resistance area. As the stock market rallied in 2010, BFZ has been unable to follow. Based on this fund and others, it looks like California’s muni bonds may lead to the downside, just like they did in 2007. 

This forecast stands in stark contrast to the rating agencies’ opinions. Not one state carries a non-investment grade rating, and California alone occupies the level just above junk. But it's not that surprising, as these are the same agencies that were oblivious to the real estate bubble.

The February 2009 issue of our Elliott Wave Financial Forecast stated, “The degree of the [down]turn suggests that muni-bond defaults will surpass the 30% rate of the 1930s.” California had to issue IOUs in order to avoid default in 2009. Let’s see how the other 49 fare this year. .........................

"A trader is a man who earns what he gets and does not give or take the undeserved. He does not treat men as masters or slaves, but as independent equals. He deals with men by means of a free, voluntary, unforced, uncoerced exchange—an exchange which benefits both parties by their own independent judgment. A trader does not expect to be paid for his defaults, only for his achievements. He does not switch to others the burden of his failures, and he does not mortgage his life into bondage to the failures of others." - Ayn Rand

Marilyn Cohen, for
01.21.10, 06:20 PM EST
Forbes Magazine dated February 08, 2010

U.S. equity funds lost $35 billion in 2009, versus $421 billion going into bond funds. There's a lot of unsophisticated money in bonds now that could flee at the first sign of trouble.

In 2009 investors were warned about bubbles: a bubble in Treasuries, a gold bubble and, finally, warnings of a rapidly expanding bubble in stocks. But I'm here to tell you about a monster bond mutual fund bubble forming. It's brought to us by the Federal Reserve's 0% interest rate policy. Whether the flood into bond funds of all types was an intended consequence or not, it's now a flood that could go just as quickly the other way.

Investors couldn't tolerate, let alone live off, the substandard money market rates and CD yields. These paltry rates on CDs tell me that the banks don't need our money. They're still not lending.

The stampede into bond funds wasn't just about low short-term interest rates; it was a primal scream by individuals saying, "I can't take any more losses in the stock market, so get me into something safe!" The bond fund floodgates opened wide to accommodate them.

Trim Tabs Research tells us that a net $35 billion was pulled from U.S. equity funds in 2009, whereas $421 billion went into bond funds. It's simply astonishing. There is a lot of unsophisticated money in bonds now, and I'm not sure investors understand how miserable things can get when the low interest rate party ends.

Bond funds across all sectors are at risk. Long-term Treasury funds like Vanguard (VUSTX) and Fidelity Spartan (FLBAX) were down 12% in 2009 as long-term Treasury bond rates ticked up a percentage point. The precipitous fall is just the beginning. High-yield funds like T. Rowe Price's High Yield Fund (PRHYX), up 49% last year, and Fidelity Capital & Income (FAGIX), up 72%, won't continue breaking performance records. Junk bond funds have a higher correlation to equity returns than to investment-grade corporates. Unless you expect another year of mammoth inflows into bonds or soaring stock market returns, you can't expect a repeat performance. You can't even be sure you'll end 2010 in positive territory.

We bond folks always look at what can go wrong. Here are a few things on my list: outflow of funds, higher rates, the fear of inflation, a change in Fed policy and, finally, bond investors waking up to the reality of dismal bond returns. As in stocks, so in bonds: Negative returns feed on themselves.

My advice is to take some profit off the table now. If I'm early on my call, what's your downside? You miss a small further price gain. But rates are already limbo low--how much lower can they go? Bond fund hot money will not stick around when rates tick up. As redemptions begin, your return will turn negative.

This is a time to keep effective maturities short. That means owning not just short-maturity bonds but also bonds likely to be called in the near future. A call is particularly likely if the company in question issued low-coupon bonds last year whose proceeds could be used to call in the high-coupon bond you hold.

Purchase Fisher Scientific's 6.125s due July 1, 2015.

In November Fisher issued two low-coupon bonds and then tendered for its convertible notes and redeemed its 6.75% due 2014. Next on the list for early extinction is the issue due in 2015. Don't pay more than 104.5 for a 2.8% yield to the July call. If the bonds do not get called they kick up to a 4.27% yield to the next 2011 call and 5.17% yield to maturity. All these annualized returns are well above what you get on U.S. Treasuries (noncallable) of similar maturity.

For higher yield buy Crown Americas' 7.75s due Nov. 15, 2015 and rated BB--.

This is in junk territory, but Crown supplies a basic need: metal and glass containers for food and beverages. On Dec. 30 Crown redeemed $300 million out of $500 million of its 7.625% November 2013 bonds. After the remaining $200 million of that issue gets called, the 7.75% bonds will be next. If you pay 104.25 that will yield you 6.47% to the November 2013 call. Any way you cut it, the yield and call dates give you the stability of income and predictable return of principal that bond funds can't.

For those of you wondering how my picks turned out in 2009: The total return on a portfolio invested over the course of the year in my ten FORBES column picks was 5.9% (after a hypothetical 1% transaction cost) versus 2.7% for the same amounts invested on the same dates in Merrill Lynch's Corporate & Government Master Index. After taxes I would have looked better, since three of my recommendations were tax-exempt munis. Because transaction costs on bonds can be significant, I am not recommending any sales, but I feel sufficiently bullish on only one of the ten to put it back into the 2010 buy list, and that is the Leucadia National ( LUK - news - people ) 7% bond due in 2013.

Marilyn Cohen is president of Envision Capital Management, Inc., a Los Angeles fixed-income money manager. Visit her home page at www.forbes.com/cohen. .........................

"A trader is a man who earns what he gets and does not give or take the undeserved. He does not treat men as masters or slaves, but as independent equals. He deals with men by means of a free, voluntary, unforced, uncoerced exchange—an exchange which benefits both parties by their own independent judgment. A trader does not expect to be paid for his defaults, only for his achievements. He does not switch to others the burden of his failures, and he does not mortgage his life into bondage to the failures of others." - Ayn Rand

By Howard J. Stock for
March 2, 2010

Mutual funds brought in $377 billion in assets last year, while exchange-traded funds attracted $104.1 billion and separately managed accounts garnered $80 billion, according to Morningstar’s Fund Flows and Investment Trends 2009 Annual Report.
 
Money-market funds registered outflows of $392 billion over the same period, the company announced Monday.

“It was a banner year for bond funds in 2009,” said Sonya Morris, an editorial director at Morningstar [MORN]. “It shows investors felt more comfortable stepping back into the market.”

Bond funds accounted for the bulk of mutual-fund inflows, at $357 billion, more than they attracted for the previous five years combined. Weak competition from other income-producing products, such as certificates of deposit and money market funds, explains some of bond funds’ unusual success, but investors’ flight to safety explains much of their appetite for bond funds. Muni funds experienced a similar bump in inflows, bringing in $72 billion, up from their previous high of $21 billion in 2006.

All said, bonds have a better story to tell than equities: Bonds have returned 6.15% over the past 10 years, according to Barclays Capital Aggregate Bond Index, results as of Dec. 31, compared to the S&P 500’s annual loss of 0.95% over the same time period.

Morris urges caution, though. Bond funds had a stellar year, and she said it is unrealistic to expect a repeat of that performance in 2010. Also, the bond rally has made certain sectors less attractively priced, and some—government-backed bonds and munis in particular—could even be considered overheated. “Investors have reason to moderate their expectations in 2010,” she says.

Meanwhile, ETFs enjoyed strong inflows, although 2009’s $104.1 billion was down significantly from 2008’s $156.6 billion in inflows. Product manufacturers responded accordingly, launching 134 new ETFs in 2009 (37 equity ETFs; 33 leveraged and inverse; 30 fixed income; and 24 international equity; plus 10 others). Fifty four ETFs closed last year, down from 58 in 2008.

Generally speaking, fixed-income investments ruled ETFs as they did mutual funds, said John Gabriel, an ETF analyst at Morningstar. However, he said that ETFs representing specific niches also sparked investors’ interest, most notably iShares MSCI Brazil Index ETF, which had $1.7 billion in inflows, and the SPDR Gold Shares ETF, which had $11 billion in net inflows.

Why are product providers lifting rocks so far afield? Partly because the three largest providers - State Street [STT], Vanguard and BlackRock [BLK], have the traditional equity markets covered. However, when investors weren’t looking for safety they were looking for diversification outside of the traditional market and into commodities.

“A lot of people wanted more diversification, which partly explains the proliferation in esoteric asset classes,” Gabriel said. .........................

"A trader is a man who earns what he gets and does not give or take the undeserved. He does not treat men as masters or slaves, but as independent equals. He deals with men by means of a free, voluntary, unforced, uncoerced exchange—an exchange which benefits both parties by their own independent judgment. A trader does not expect to be paid for his defaults, only for his achievements. He does not switch to others the burden of his failures, and he does not mortgage his life into bondage to the failures of others." - Ayn Rand

By Deborah Levine, for
March 26, 2010, 3:30 p.m. EDT

NEW YORK (MarketWatch) -- Treasury prices posted small gains on Friday, but fell for the week by the most this year amid heightened concerns about the government's ability to finance its deficits and as investors turn to seeking out higher yields in other asset classes.

Still, U.S. debt yields, which move inversely to prices, were deemed attractive by some.

Yields on 10-year notes (UST10Y ) fell 3 basis points, or 0.03%, to 3.85%.

On Thursday, the yields closed at the highest since last June, when they peaked at 3.94%. That was the highest since October 2008, when the credit crisis really took off and sent yields to all-time lows.

Yields on 2-year notes  (UST2YR ) declined 3 basis points to 1.05%, after closing at the highest rate this year. They've risen since last Friday, for the fourth weekly increase -- the longest streak since August.

Yields on 30-year bonds (UST30Y ) slid 2 basis points to 4.75%. The yields jumped this week by the most since August.

The week's losses came as the successive Treasury auctions suffered from poor demand from investors, coming at higher-than-anticipated yields and with smaller proportions of the auctions being bought by a group of investors that includes foreign central banks. The government sold 2-year, 5-year  (UST5YR ) and 7-year debt (UST7YR ) during the week.

Providing some support for bonds, analysts pointed to a lack of note or bond auctions next week and the potential for month-end buying.

Benchmark bond indexes, at the end of every month, add to the index any debt that was sold during the period, which usually extended the duration of the index. Duration is a measure of price sensitivity to a change in interest rates, and is partly determined by maturity. Fund managers who try to match their holdings to benchmark indexes therefore buy recently-issued debt at month end.

"It will now be quiet on the supply front going into month-end extension-related buying, so this last 7-year auction could serve as something of a capping stone on this week's capitulation in U.S. rates," said George Goncalves, a strategist at Nomura Securities.

Data, weekly sell-off

Still, yields were a bit higher during morning trading but began turning down after a consumer sentiment index released by the University of Michigan and Reuters remained at 73.6 in March, matching February's level.

That followed a government report which said the U.S. economy grew at a revised 5.6% pace in the fourth quarter, slower than reported earlier. Read about U.S. GDP.

Benchmark 10-year securities are still on pace for the biggest weekly jump in yields since December.

Treasurys of all maturities have lost 1.3% this month, according to an index compiled by Bank of America Merrill Lynch. It's the first monthly drop since December.

"What's changed is that investor outlooks on the fiscal side have turned decidedly more downbeat since Greece's debt woes were first splashed onto the front pages of the main papers," RBS Securities' Bill O'Donnell and Aaron Kohli said.

"The spotlight on Greece only helped to reveal that that the U.S.'s kitchen (federal and state budget balances) was itself full of cockroaches," the bond strategists wrote in a note.

Deborah Levine is a MarketWatch reporter, based in New York. .........................

"A trader is a man who earns what he gets and does not give or take the undeserved. He does not treat men as masters or slaves, but as independent equals. He deals with men by means of a free, voluntary, unforced, uncoerced exchange—an exchange which benefits both parties by their own independent judgment. A trader does not expect to be paid for his defaults, only for his achievements. He does not switch to others the burden of his failures, and he does not mortgage his life into bondage to the failures of others." - Ayn Rand

By Josh Lipton for
March 17, 2010, 12:01 a.m. EDT

NEW YORK (MarketWatch) -- Bull market be damned: U.S. mutual fund investors continue to sidestep this stock market.

According to a report released by New York-based Strategic Insight on Thursday morning, investors put $30 billion into stock and bond mutual funds in February. Read the Strategic Insight report.

For the first quarter of 2010, net inflows to stock and bond funds could top $100 billion, a big reversal from the less than $10 billion garnered in the year-ago period.

But where are investors putting money to work, specifically?

It's all about fixed income products.

Loren Fox, Strategic Insight's senior research analyst, says that, with money-market funds and deposit accounts continuing to offer near-zero yields, investors are hungry for income alternatives.

In total, they put $24 billion into bond funds in February. Leading the inflows, says Fox, were short- and intermediate-maturity corporate bond funds, with $10 billion in combined net inflows.

Global bond funds captured more than $4 billion in the latest month, he says, while inflation jitters encouraged inflows of $2.5 billion to TIPS funds. For more, see Bonds During the Last High-Inflation Era.

Enthusiasm for bond funds mirrors trends that unfolded last year. Full-year 2009 inflows to bond funds -- including traditional mutual funds and ETFs -- reached an all-time record of $396 billion.

The massive inflows into bond funds will continue into 2010, says Fox.

"Interest rates will not rise significantly this year," he says. "So money market funds and bank deposit accounts will continue to be not all that attractive from a yield point of view."

There is also some demand for higher-risk, higher-return investments as exemplified by allocations to international equity funds.

Investors put $6.5 billion into such funds in February. (In 2009, investors dedicated $75.3 billion to these funds).

"There are two trends at work here," says Fox. "Investors for many years now have been increasing the global diversification of their portfolios. Also, international markets have done better than the U.S. equity markets. So that has emboldened investors to put more money into international funds."

However, in contrast to bond funds and international equity funds, investors showed little love for the home team.

Flows into diversified U.S. equity funds were negative in February, says Fox, despite the average domestic equity fund delivering a 3.4% total return in the month and nearly 60% return for the prior 12 months.

The stock market has enjoyed a record run up here. The SPDR S&P 500 ETF (SPY), which includes holdings like Apple Inc.  (AAPL) , AT&T (T ) , Exxon Mobil Corp. (XOM ) , General Electric (GE) , Johnson & Johnson (JNJ) , and Microsoft (MSFT) , is up 60% in the past 12 months.

But, despite this hard rally, a lot of investors seem to think U.S. stocks are a bad bet, given the uncertain path ahead for a fragile economy plagued by ongoing problems in housing, commercial real estate, and the labor market.

"We are not sure when investors will begin putting more money into equity funds," Fox says. "They haven't embraced stock funds because they do have lingering concerns about how this recovery will take shape."

Russ Kinnel, Morningstar's director of fund research, puts it this way: "There is still a lot of fear from 2008. Investors are fighting the last war. But fund flows do tend to reflect the last couple of years. So, if we do have a positive year again, in 2010 that will start a trickle of money in."

How do financial advisers, who guide most investment decisions, feel about where to put money to work in the investment world?

According to a survey conducted by Charles Schwab in January, financial advisers intend to pull away from fixed income: 16% plan on investing more in bonds versus 25% in July.

But there wasn't much cheerleading for U.S. stocks, either: 26% say they'll invest more in large -- cap U.S. stocks versus 30% in July.

Separately, and sort of interestingly, ETFs experienced $5 billion of aggregate net inflows during February, a reversal from the net redemptions seen in January. The biggest draws were U.S. equity ETFs like the SPY.

Why would investors withdraw money from U.S.-focused mutual funds, but commit capital to U.S. equity exchange-traded funds?

One reason, says Fox: Investors might be more comfortable slowly tip-toeing back into the market with relatively cheap, passive vehicles.

"They are a bit less risky because they are lower cost than actively managed funds," he says.

Josh Lipton is a staff writer at Minyanville , where he covers business and markets. .........................

"A trader is a man who earns what he gets and does not give or take the undeserved. He does not treat men as masters or slaves, but as independent equals. He deals with men by means of a free, voluntary, unforced, uncoerced exchange—an exchange which benefits both parties by their own independent judgment. A trader does not expect to be paid for his defaults, only for his achievements. He does not switch to others the burden of his failures, and he does not mortgage his life into bondage to the failures of others." - Ayn Rand

By Chris Oliver, for
April 27, 2010, 7:00 p.m. EDT

HONG KONG (MarketWatch) -- Risks of a major accident from derivatives use remain -- or may even be on the rise -- amid a wave of re-leveraging, according to an expert of the causes of the global financial crisis.

Noted financial author Richard Duncan said banks and other financial institutions are beginning to pile back into the opaque financial instruments, as the total value of such contracts is "probably back" to $650 trillion.

"This is a grave threat not only to the financial sector but also the entire global economy," Duncan said in a telephone interview with MarketWatch from his home in Bangkok as he prepares for a U.S. tour of his 2009 book, The Corruption of Capitalism. See previous story on crisis experts' recent book.

Duncan, the former London-based head of global investment strategy for ABN Amro, says investment banking culture hasn't changed much in the wake of the crisis, as the lucrative compensation schemes that led to the excessive risk taking remain intact.

The over-the-counter derivates market contracted in the wake of the financial crisis to $547 trillion in December of 2008, but ballooned more than $50 trillion in the following six months. It could now be approaching its former high of $683 trillion in June 2008, according to Duncan, who cited data from the semi-annual figures published by the Bank for International Settlements.

Roughly speaking, a 1% default rate would amount loss ratio of $7 trillion, or about 50% of annual U.S. gross domestic product, while a 10% loss rate would exceed the value of all goods and service produced around the world in a year.

Duncan continues to advocate tougher oversight of the derivatives market, but acknowledges bringing them to heel will come with risks.

Among them, global commodity markets could decline sharply, particularly crude oil, where supply and demand dynamics don't support prices anywhere near the $80-per-barrel level, he says. Oil futures traded over $83 a barrel on Tuesday.

"There is a good chance that a lot of commodities, if not all commodity prices are being manipulated through derivatives," Duncan says.

Another worry is what may surface as the opaque market comes under greater regulatory scrutiny.

"There is a really good possibly that new derivatives have been created each year to manipulate the price of derivatives in prior years. And if they forced everyone to trade through exchanges ... it could suddenly expose trillion of dollars of losses throughout the financial sector," Duncan says.

Another concern is the fallout for bank's bottom lines. Duncan says bank profits swelled along with the explosive growth in the derivatives trading, to occupy a disproportional large share of total corporate profits. That will likely come to an end, he says, if regulations tighten meaningfully.

Chris Oliver is MarketWatch's Asia bureau chief, based in Hong Kong. .........................

"A trader is a man who earns what he gets and does not give or take the undeserved. He does not treat men as masters or slaves, but as independent equals. He deals with men by means of a free, voluntary, unforced, uncoerced exchange—an exchange which benefits both parties by their own independent judgment. A trader does not expect to be paid for his defaults, only for his achievements. He does not switch to others the burden of his failures, and he does not mortgage his life into bondage to the failures of others." - Ayn Rand

Matthew Craft, for
05.21.10, 02:45 PM EDT
Nervous investors make for stingy lenders.

What’s the price of fear?

In the market for low-rated corporate debt known as junk, it’s 6.92 percentage points. That’s the extra yield companies with weak credit ratings must pay investors to hold their risky bonds instead of ultra-safe U.S. Treasury notes. As worries have grown over Europe’s debt crisis and the strength of the global recovery, this risk premium – often called a spread – made a leap in recent weeks, from 5.42 points on April 26 to 6.92 Thursday, the widest spread in the past 3 months, according to Bank of America-Merrill Lynch indexes.

For a company borrowing $100 million in the bond markets, that’s an added $1.5 million in interest cost every year. It’s one reason that fewer companies are lining up new sales. In the third week of April, KDP Investment Advisors counted 20 sales of high-yield bonds; in the past week, there were only five.

Barclays ( BCS ) was the lead bank for two of the borrowers: the Hillman Group and J.C. Penney ( JCP). For Hillman, a hardware distributor getting bought by Oak Hill Capital Partners, it wasn't cheap. The company's bonds pay 10.88% over eight years.

The selloff since April 26 marks the largest fall for the high-yield bond market since December 2008, when credit markets were shuttered, according to Martin Fridson, founder of Fridson Investment Advisors. In an email Friday morning, Fridson said the drop may have created an excellent buying opportunity. But investors “are unwilling to fight the tape,” he wrote. “They are less worried about missing the first 10% of the rebound than they are about getting in too early.”

The high-yield market has lost 3.5% in May and 2% since last week. Bonds from First Data and Freescale Semiconductor, both owned by private equity firms, fell the most this week – down 13.5% and 11%, respectively.

By contrast, bonds from cash-rich companies with investment-grade status have held their ground, inching up 0.13% in May.

Fear and uncertainty have investors racing back to their favorite hiding spot, the U.S. Treasury market. The yield on the benchmark 10-year note sank to 3.19% on Thursday, a low for this year. It was back at 3.19% on Friday afternoon. (When buyers bid up bond prices, yields fall.)

Next week, the Treasury will auction off another round of notes -- $113 billion in total – along with $53 billion in short-term bills. A sale of $42 billion in two-year notes comes Tuesday, followed by $40 billion in five-year notes the next day and $31 billion in seven-year notes on Thursday. .........................

"A trader is a man who earns what he gets and does not give or take the undeserved. He does not treat men as masters or slaves, but as independent equals. He deals with men by means of a free, voluntary, unforced, uncoerced exchange—an exchange which benefits both parties by their own independent judgment. A trader does not expect to be paid for his defaults, only for his achievements. He does not switch to others the burden of his failures, and he does not mortgage his life into bondage to the failures of others." - Ayn Rand

Christopher Pavese for
May 13, 2010 - 2:01 pm

Christopher Pavese serves as President and Chief Investment Officer of the Broyhill Affinity Fund.

It is important to note that in the near term, the contraction in private sector credit combined with the threat of fresh credit concerns ahead, will likely keep a lid on inflation pressures. This view is perhaps where we differ most from today’s consensus thinking, where many expect an immediate and permanent increase in inflation levels. We aim to capitalize on this departure from consensus later in the year, but importantly, the difference is simply one of timing.

The excerpt above is from our year-end 2009 letter to investors.  Importantly, “later in the year” is now!

Sparked by a growing recognition of sovereign risk originating from the euro zone, investors flocked to the relative safety of U.S. Treasuries last week, driving yields on the 30-year Bond to 4.28% and the 10-year Treasury to 3.43% at Friday’s close.  We expect this move out of risk assets and into government bonds to accelerate in the period ahead.

A multi-decade decline in interest rates has led to a massive bubble in debt at home and abroad, but contrary to popular belief, we cannot borrow our way to wealth and prosperity.  At some point, borrowers must pay the piper and the zero hour appears to be fast approaching.  According to research by Ned Davis, in the current decade, $1 of debt has only produced $0.17 of GDP growth (versus $0.59 to $0.73 in the fifties through the seventies), suggesting a severe strain on our nation’s balance sheet.

Given our massive debt bubble, even minor rises in interest rates create enormous difficulties in debt service.  This is illustrated in the chart below taken from our Fourth Quarter Investor Call slides.  The “choking point” of rising rates on the economy has become lower and lower over time.  In other words, greater and greater levels of debt act as larger and larger speed bumps for economic growth.

Put simply, with an ever increasing weight of debt on our shoulders it takes successively smaller hiccups in yields, to break the economy’s back.  In 1989, when rates rose to 9.5%, they popped the commercial real estate bubble and caused the S&L crisis.  In 1999, the tech bubble busted as rates approached 6.5%.  And in June of 2006, interest rates at 5.25% triggered a collapse of the residential property market and brought about the Great Recession.


We believe the next “choking point” for the economy is likely to be significantly lower than the previous ones, given the massive surge in public and private sector debt loads and the looming threat of debt deflation.  This is particularly worrisome given the mortgage reset schedule that has just begun, unwinding fiscal stimulus,  and the deflationary spiral just kicking off in the euro zone.

We had initially suggested that the 10-year Treasury Bond yielding 4% to 4.5% would offer investors an attractive hedge against deflation (particularly when held as a barbell with gold). Given the growing macro risks on the horizon and the shortening fuse on those risks, however, we are comfortable buying here and hope to continue buying on any weakness.

We covered our Treasury shorts as yields spiked in late March and became buyers shortly thereafter as our conviction increased that both leading indicators and CPI are set to peak in the immediate term, potentially cutting short the tactical back-up in yields we envisioned.


This has been by far our most out-of-consensus call for 2010.  We measure this analytically by how many times we are laughed at, yelled at, or called idiots by our friends and family.  Believe us, we understand the long term risks in government debt, as we described in detail in the Fourth Quarter Broyhill Letter:

Nassim Nicholas Taleb, author of “The Black Swan,” said “every single human being” should bet U.S. Treasury bonds will decline, citing the policies of Federal Reserve Chairman Ben S. Bernanke and the Obama administration. Aside from the occasional flight-to-safety rallies driven by periodic credit fears in the near term, we concur. Like Treasuries, the dollar should benefit from the same intermittent credit pressures related to ongoing deleveraging, but the long term trend remains lower for the tallest midget in the room.

Emphatically, this is one of those “occasional flight to safety rallies.”  It is likely to be a doozy!!  Here are Ten Reasons to Buy Bonds:

Core inflation historically falls after the end of a recession.  In the 11 recessions from 1950 through July 2009, the end of recession was followed by declining inflation, with CPI bottoming on average, about 29 months after the recession ended.  Longer term inflation concerns are warranted, but there are more immediate threats in front of us.

With core inflation declining and nominal economic growth rates weak in the aftermath of financial crisis, bond yields should trend lower in coming quarters.  Investors looking to purchase long-term inflation hedges, should see more attractive entry points in the period ahead.  Be patient.

The average long term Treasury rate since 1870 is 4.3% and the average annual CPI is 2.1%.  If inflation trends toward zero (before moving much higher later in the decade), then long term bond yields could naturally fall toward 2%.

A near term deflationary environment bodes very well for long term bonds. Long term Treasury rates dropped from 3.6% in 1929 to 1.9% in 1941.  Interest rates in Japan fell from 5.7% in 1989 to 1.1% in 2008 while the Nikkei dropped 77.2% over the entire period.

The most common argument from Bond Bears is higher levels of debt must lead to higher yields.  The reality is that the economic cycle still dominates intermediate swings in bond prices – a growing list of leading indicators are pointing to slowing economic growth ahead.

The velocity of money is falling at the same time money growth has come to an abrupt stop.  Monetary policy is effectively pushing on a string.

Nearly 80% of money managers in Barron’s Big Money Poll say they are bearish on Treasuries.  When everyone agrees that rates are headed higher, something else is bound to happen.

Similarly, retail investors are once again, near their highest allocation to equities at the market’s highs.  I believe some call this Predictably Irrational. The last time bullish sentiment was this high was back in December 2007 when the S&P 500 was trading at 1500!

Greek default and contagion risks across the Eurozone periphery.  Cascading disruptions throughout the European banking system.  This risk will not go away anytime soon.  News will get worse before it gets better.  Think back to how subprime was “contained” or how the Bear Stearns rescue marked the “panic lows” for the markets.  Greece is a pebble in the Euro Pond.  The ripples it causes will ultimately be very messy.
Read number nine again.

Admittedly, we are not fixed income experts, so we always find it helpful to defer to those that are.  The good folks at PIMCO, the world’s largest bond shop, had this to say in a recent article titled, Understanding the Greek aftershocks:

Several countries, led by the US, stand to benefit from a reallocation of capital away from the eurozone as investors react to both the deterioration in sovereign risk and the surge in volatility. These flows are already happening. They will become even more pronounced in the weeks and months ahead as institutional investors revise their investment guidelines to exclude highly volatile government exposures from their “interest rate” bucket. But there is an important qualifier here. Since Greece is part of a general phenomenon of bloated public finance and higher systemic risk, we should also expect a generalised and volatile step-increase in risk premia around the world. Capital will thus be more selective in terms of destination, as it opts for liquidity over returns and for safe government bonds over equities.

Our interpretation, in laymen’s terms: Buy Bonds!

Disclosure: At the time of publication, the author was long U.S. Treasury Bonds, although positions may change at any time. .........................

"A trader is a man who earns what he gets and does not give or take the undeserved. He does not treat men as masters or slaves, but as independent equals. He deals with men by means of a free, voluntary, unforced, uncoerced exchange—an exchange which benefits both parties by their own independent judgment. A trader does not expect to be paid for his defaults, only for his achievements. He does not switch to others the burden of his failures, and he does not mortgage his life into bondage to the failures of others." - Ayn Rand

By Alistair Barr for
Aug. 9, 2010, 5:02 p.m. EDT

SAN FRANCISCO (MarketWatch) -- Ambac Financial Group (ABK ) said late Monday that it generated a second-quarter net loss attributable to common shareholders of $57.6 million, or 20 cents a share. That compares to a net loss of $2.37 billion, or $8.24 a share, in the same period a year earlier. Ambac shares fell 20% to 72 cents in after-hours trading on Monday.
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"A trader is a man who earns what he gets and does not give or take the undeserved. He does not treat men as masters or slaves, but as independent equals. He deals with men by means of a free, voluntary, unforced, uncoerced exchange—an exchange which benefits both parties by their own independent judgment. A trader does not expect to be paid for his defaults, only for his achievements. He does not switch to others the burden of his failures, and he does not mortgage his life into bondage to the failures of others." - Ayn Rand

By Deborah Levine for
Aug. 11, 2010, 1:08 p.m. EDT

NEW YORK (MarketWatch) -- The Treasury Department sold $24 billion in 10-year notes (UST10Y ) on Wednesday at a yield of 2.730%, the lowest since January 2009. Bidders offered to buy an average 3.04 times the amount of debt sold, compared to an average of 2.73 times at the last four quarterly sales of new 10-year notes. Indirect bidders, a group which includes foreign central banks, purchased 45.8%, compared with an average of 42.5% of recent sales. Direct bidders, including domestic money managers, bought another 10.6%, versus 13.2% on average. The broader bond market remained higher after the auction, pushing yields down. Yields on 2-year notes (UST2YR ) fell 3 basis points to 0.51%, after touching a fresh all-time low in earlier trading.

_____________________________________________________________________________________________________________________________________

Bid-to-cover is a little below 3.0 on 10yr notes going for less than 3.0%.  And 2-yr year notes are selling at half-a-percent (0.5%)???

The only way we can get lower than the January 2009 low is if people actually start paying yield again on notes.  Strangely enough, with all the talk about how equities are resilient in the face of economic uncertainty, it certainly seems as if the bigger players in the game are stocking up on the "safe" stuff.  This has been a rather quiet theme for all of 2010.  And though I've just been recently introduced into the mechanics of the bond markets, I've been observing it in my intermarket analysis methods for a few years now...and that's why I've been skeptical of the rally since September 2009.  I still think that should've been the turn...maybe it wouldn't have hurt so bad to fall from there.

Only time (and some well thought analysis) will tell.
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"A trader is a man who earns what he gets and does not give or take the undeserved. He does not treat men as masters or slaves, but as independent equals. He deals with men by means of a free, voluntary, unforced, uncoerced exchange—an exchange which benefits both parties by their own independent judgment. A trader does not expect to be paid for his defaults, only for his achievements. He does not switch to others the burden of his failures, and he does not mortgage his life into bondage to the failures of others." - Ayn Rand

By Deborah Levine for
Aug. 11, 2010, 3:11 p.m. EDT

NEW YORK (MarketWatch) -- The Federal Reserve Bank of New York announced Wednesday it will buy about $18 billion in Treasury securities in nine operations through Sept. 13, elaborating on policy makers' statement Tuesday that it would reinvest cash from maturing mortgage-backed securities and housing agency debt back into the bond market to support the economic recovery. Each operation will be for a specific range of maturities, the shortest being debt maturing in 2011 and the longest being 2040 bonds. The goal is to avoid shrinking the Fed's balance sheet, which would effectively be a tightening of monetary policy. .........................

"A trader is a man who earns what he gets and does not give or take the undeserved. He does not treat men as masters or slaves, but as independent equals. He deals with men by means of a free, voluntary, unforced, uncoerced exchange—an exchange which benefits both parties by their own independent judgment. A trader does not expect to be paid for his defaults, only for his achievements. He does not switch to others the burden of his failures, and he does not mortgage his life into bondage to the failures of others." - Ayn Rand

By Nick Godt for

NEW YORK (MarketWatch) -- Can you feel that rush of excitement towards bonds?

Pundits excitedly talk of ever rising bond prices on TV, cab drivers now offer tips on bonds, and in hip circles where trendmakers gather, the merits of different bonds are being discussed over expensive cocktails.

You can get them in different sizes, colors and shapes: Government, corporates, international, emerging markets, or municipal -- you can't go wrong. They'll all be going up for ever and ever!

If so many people were in fact talking about bonds that way, we would in fact be having a bubble on our hands.

But they're not.

Most of the noise about it comes from investment circles deploring the lack of interest from retail investors for stocks and other riskier assets and looking in astonishment at how much has been going out of equities and into bond funds.

Between 1998 and 2000, at the height of the technology bubble, roughly $740 million a day of U.S. retail money went into tech stocks, according to TrimTabs Research, a firm that track investment flows.

By comparison, over the past 20 months, U.S. money has been pouring into bond funds at an average rate of roughly $1.5 billion per day.

That is enough to make anybody's head spin, but especially those of money managers who've either missed the boat or who've tried to persuade retail investors that better investments were to be found elsewhere.

Hence, the new spin making the rounds whereby bond valuations are way overstretched, just like tech stocks were in the late 1990s.

If we were to look at a flat world with no context, where only historical returns, charts, and other marketing tools of investment professionals mattered, the bond-bubble argument might make some sense.

But the fact is that since 2008, the world has experienced -- and is still in the throes of -- its worst financial and economic crisis since the 1930s.

In the U.S., baby boomers counting on stock-market gains for their retirement have seen stocks fall more than 50% from peak to trough twice over the past 10 years: Most aren't taken any more chances.

As noted by Dave Rosenberg, the chief economist at Gluskin Sheff, with the average baby-boomer now aged 55 and average portfolios still overly tilted towards equities -- at 27% for stocks versus 6% for fixed-income -- we might be witnessing a "powerful demographic trend" that may turn into "a secular shift."

Boomers are "moving to correct this mismatch on their balance sheet and adjusting it to capture more income, limit their risks and preserve their capital," Rosenberg wrote on Thursday.

The recovery in the economy and in stocks throughout last year wasn't enough to reverse the trend.
And they're right!

Bonds have generated an overall return of 13% over the past two years compared to negative 21% for equities, according to Gluskin Sheff.

And there is certainly no reason for the trend to reverse in 2010: First, there was the European crisis earlier this year and now over the past few months, an increasingly worrying slowdown in the U.S. economy, where already massive unemployment is again increasing, while risks of deflation are rising by the day.

Talk of a bond-bubble have re-appeared just as Treasury yields, which move inversely to prices, are plumbing historical lows.

Yields on 2-year notes (UST2YR) , which fall along with expectations for interest rates, are at record lows while those on 10-year notes (UST10Y) , which reflect inflation expectations, slumped to their lowest since March 2009.

If anything, it's stocks that are only just recently catching up to that reality, with both the Dow Jones Industrial Average (DJIA) and the S&P 500 index (SPX) now down for the second consecutive week. .........................
Nemo liber est qui corpori servit. 
-- Seneca the Younger, Epistoloe Ad Lucilium (XCII)

Well, I certainly do believe that deflation is possible.  It spawns things like shifts in Fed regulatory policy to accelerate, or floor, inflationary pressures to keep demand on services and goods up.  Just sayin'

Actually, I'm not one of those who thinks there is a bubble in bonds, not exactly.  Bonds are a two component animal that has a coupon price and a yield (or return) price which are inverse to each other.  And simply put, stocks really don't have that mechanism (dividends, but IMHO they barely count).  To say there is a bubble in bonds as there was in stock as Mr. Godt asserts is not true, he does point that out, but misses the point that bonds are becoming over valued with respect to the associated yields and inflationary pressures. 

And bonds have also undeniably out performed stocks over the time period listed.  And the Babyboomers and other investors at large have had good reason to jump over to bonds since stocks have been hammered of late... and by that I mean since 2008 levels, not since 2009 levels where the SPX has strongly out performed. 

At any rate, what I am saying is that there does to me appear to be some over valuation (read: "not" bubble) on Treasurys and other bonds, particularly if there is strong retail interest in the bond market (which is a warning sign in and of itself).  The 'bust' is going to be two-fold.  First is the usual: there is panic and the retailers pull their money out of bonds en masses, and there is a sharp drop in the value of bonds.  The problem with this is the other side of that equation, the return rates.  From what I know, the U.S. prime interest rate, among other things, is used to control inflation and match it with return rates on interest bearing instruments such as bonds.  The Fed does have the Treasury purchasing mechanism for controlling the speculative price of Treasurys (notably buying up bonds at it's own auctions to cut down supply on lackluster demand).  But I'm not all that sure that would hold for the rest of the bonds markets: munis, corporates, etd.  If there is a dive in price, the yields should pull up in response.  And if that happens, the interest rate would have to come up in response (or some other obvious regulatory maneuver).  There is the obvious equities market side effects of such an increase, but honestly, it would almost be a response to the inflation that seems to be everywhere but in the CPI numbers. 

Am I off base on this?

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Nemo liber est qui corpori servit. 
-- Seneca the Younger, Epistoloe Ad Lucilium (XCII)

I've been vaguely listening to the talk about bubbles in the bond market for what seems a year now.

And I've offered my own 2-cents on inflation vs. deflation earlier this year to only turn around and reverse my judgment completely as time progressed.  But as it pertains to the bond market...I'm not even sure that anyone would recognize a bubble in the bond market if they saw it.

We (myself very much included) often use these overly-linear approximations and assumptions that really don't account for something that our rational minds have a hard time computing, and that's natural (or logarithmic) growth.  Yet, capital markets much like other systems often exhibit periods of said growth, followed by periods of regression that are at least proportioned.  Taking tech stocks in 1999-2000 into consideration, the fallout of the bubble was fairly well-proportioned to the rocketship rise in tech stock prices.  But if you look at a chart, there's a nice "curvature" to the rise in prices that denotes non-linear growth.  As such, we have to be careful in our comparisons.  Using this same era, here's something from the above article:


$1.5 billion is roughly twice as much in in-flows as it was when tech stocks were soaring to never seen again heights.  So by common logic, it would appear that bonds are bubbling up for a doubly-disastrous fate, right?

Not exactly.  Not at all really.

In that decade, we've seen a weakening of the dollar itself that is considerable enough to skew the numbers considerably.  And this ultimately means that $1 today isn't worth what it was in 1999 - 2000.

Plus, the bond market is much deeper than equities, even more so than a particular sector (tech stocks).  Nearly $825 billion changes hands daily in the bond market.  Even more is traded in the currency market.  Therefore, the $1.5 billion/day in-flows need to be measured appropriately to give a sense of what's necessary. 


Sure bonds are overvalued (overbought).  And yes, retail interest in bonds does hint at a top.  But contrarian indicators in this situation may not prove as useful as when the markets are churning along nicely (read: not in a correction).  The uncertainty of the situation at hand has a lot to do with investor interest in bonds; the destruction of retirement plans has been a wake-up call for retailers.  Therefore, until things at least draw back to even, the retail investors is going to be noticeably moe abreast of other capital vehicles than normal.

Technically speaking, bonds are a pretty solid market, like currencies and commodities.  In fact, much of the action in bonds of the last 30 years can be neatly encased in a corrective channel following a collosal correction in 70s.  Now think about that for a second and see the pic below. 


The last 30 years can be encased in a channel (for the most part).  That means bonds have been trending quite nicely through the Cold War, the Gulf War, 9/11, the Iraqi/Afghan war/conflict...and just about everything else that has happened in the last 3 decades.  And an astute bond trader could simply buy near the lower channel and then sell appropriately as the upper channel was approached.

The only interesting period here seems to be post-2000 where there was no progression towards the upper end of the channel.  But if you think back to this time you'll see that we had a big shift in interest rate policy, a new real estate bull market and what most people called a bull market in equities as well.  I guess bonds were simply too unpopular during this period.  Then enter 2008 and we had an "adjustment" where the bond market quickly made it back to the upper bound of the channel as stocks were sold off like genuine pieces of the plague.

So as far as my thoughts go on bonds and bubbles, I only have two relevant postings:

1.  Contrarian indicators will most likely not work here.  Everyone is watching.
2.  Talk to me about bubbles when the 30-yr reaches 150...and I'll take every chance I can get to short. .........................

"A trader is a man who earns what he gets and does not give or take the undeserved. He does not treat men as masters or slaves, but as independent equals. He deals with men by means of a free, voluntary, unforced, uncoerced exchange—an exchange which benefits both parties by their own independent judgment. A trader does not expect to be paid for his defaults, only for his achievements. He does not switch to others the burden of his failures, and he does not mortgage his life into bondage to the failures of others." - Ayn Rand