U.S. Bond Prices Rose and Yields Fell

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Back from a day in the trenches doing research on gas-bearing shale formations in Australia, your editor rejoins the action in the stock market and the wider war between inflation and deflation. And what do we notice upon our return? There are winners and losers and lots of confusion.

Earlier in the week we noted that the action in the U.S. bond market was the prime mover for stock and commodity prices. Thursday trading in the States confirmed that. For the first time in five days, U.S. bond prices rose and yields fell. The spread between two-year U.S. government notes and 10-year notes had blown out 276 basis points as investors gagged on the amount of debt being auctioned by the Treasury Department this week (over $100 billion).

But Thursday’s auction of $27 billion in seven-year notes seemed to go off without too much trouble. The market swallowed the new debt and did not chuck it back up. It’s a little nauseating when you realise that U.S. debt outstanding is $11.2 trillion, or 76% of GDP.

Our guess is that it’s going to be 100% of GDP by the halfway point of Obama’s term as President. For this week, however, the new wave of Treasuries sent in to battle deflation, recession, and capitalism itself seem to have stemmed the advance of bond yields. Victory! Viva Obama! Viva Bernanke! Viva la deficit! Viva el dollar!

Still, there are other forces that threaten to overrun the Fed’s efforts to keep the U.S. mortgage market from further imploding. Eight percent of U.S. homeowners were late on their mortgage payments in the first quarter, according to the Mortgage Bankers Association. The delinquency numbers tend to track unemployment, and unemployment is rising.

What’s worse, with prices still falling, more and more mortgages are going under water, where the mortgage exceeds the current market value of the house. After that, foreclosure isn’t far behind. And in the States, a record 3.85% of mortgages are in the process of foreclosure. When you add the delinquency and foreclosure figures together, you find that 12% of U.S. mortgage holders are either late on their mortgage payments or already in foreclosure.

That is a nightmare for the Fed. And if 10-year bond yields resume their march higher next week, they will take 30-year mortgage rates with them, killing off for this year (and probably next) any hope from a rally in U.S. house prices. Our guess? Home sales will pick up at these levels but prices will keep falling.

And what does this mean for the rest of the world? U.S. bond prices are in full retreat. The Fed is covering that retreat, turning around long enough to fire more money into the market and slow the advance of the bond vigilantes. But as money flees the sovereign bond market, it will seek refuge in tangible assets and non-debtor economies with more stable currencies and less net debt.

In midst of all this broken recordism, oil prices are climbing higher. OPEC met in Vienna and decided to keep its production levels stable. The group also said it expects world oil demand to rebound later this year, led by Asia. Crude futures are currently trading above $65.00. The energy sector was up on Wall Street and will probably be up for the week here in Australia.

Hey here’s some good news for the next one hundred years. “Among advanced economies, Australia is the most integrated with Brazil, Russia, India, China and South Africa, according to a new index from Maplecroft, a U.K.- based global risk analysis firm,” reports Bloomberg. Australia is first, followed by Finland, Japan, and the United States.

Jim O’Neill, the chief economist at Goldman Sachs, says “As the economies of the U.S. and Europe struggle to recover, those of the BRICs will prove to be more robust, and will be instrumental in pulling the world out of recession.” So it will be prosperity by association if the Maplecroft index is correct.

Whether or not it the BRICS will pull the world out of a recession this year, or next year, or the year after that, we can’t say. But the world economic order is definitely changing and the change-what we’ve called the Money Migration from the West to the East-favours Australia…in the long run. And in the short run? More on that next week!

Dan Denning
for The Daily Reckoning Australia

Dan Denning
Dan Denning examines the geopolitical and economic events that can affect your investments domestically. He raises the questions you need to answer, in order to survive financially in these turbulent times.
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26 Comments on "U.S. Bond Prices Rose and Yields Fell"

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Nick Grealy
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Dan: Care to give us an idea about Oz Shale Gas? Visit my web site and check the topics of shale gas and you’ll see we’ve been fans for almost a year about shale gas. It will be massive! But the UK energy “experts” don’t even see it coming, it really is a case of whingeing poms. Shale gas has an automatic bad press since it’s considered “unconventional” , which is a kiss of death for English people. ( I’m a Yank in the UK, who loves them when I don’t want to hit them.) CBM in Oz is obviously… Read more »
GaryB
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“.. the U.S. bond market was the prime mover for stock and commodity prices. Thursday trading in the States confirmed that. For the first time in five days, U.S. bond prices rose and yields fell.” Yeah, but who’s the buying US bonds? The US Govt? Isn’t this just QE at work? They must be pissing themselves with glee, manipulating both the bond market and the stock market at the same time – double the bang for your counterfeit buck.

Ross
Guest

I hate to be a product of the times and be cornered in tethe negative. Does any body else out there feel like that. Geeees …. doesn’t that sound like that repulsive talk over advertising?

Anyway I wouldlike to congratulate those far seeing Aussies who have put their efforts into the x-cultural studies like uni of Western Sydney’s on Australia-Mexico-Brazil. Hats off to them and let us value people ahead of their times.

Fred
Guest

Aussie 2y, 5y, 10y treasury bond yields also on the rise:
http://www.rba.gov.au/Statistics/interest_rates_yields.html
Helps to chart the numbers in Excel. Hmmm…looks to me like those bond yields precede the 30,90 & 180 day bank accepted bill yield action, and all that precedes the RBA’s ‘headline’ cash rate changes. Hmmm… me thinks home & other loan rates will soon head back up. The b.a. bill yield action also appears to explain why banks did not “pass on” the RBA’s April 09 ‘headline’ rate cut.

Greg Atkinson
Guest

Fred..I would guess that just as the RBA probably went to far raising rates they now have probably gone too far cutting rates. I cannot see how all the money being splashed around the world is going to do anything else but push up inflation for a while anyway. But if housing prices do fall after the current first home buyers mania then things could get very interesting.

Biker Pete
Guest

Property will lead us out of the recession, Greg. Can’t see history changing in that respect. Already the new super limits are having the anticipated effect. Phone calls are increasing for our (private sale) properties. We expect to sell one (at a modest 10% profit) later this week… .

Greg Atkinson
Guest

Biker Pete the only area that worries me a little is the first home buyers market, but having said that I would guess we ain’t going to see those nationwide falls of 40% that people were talking about. I wonder how much of an impact If any) the cut in immigration numbers will have on housing prices?

dan
Guest
Hi Greg. At the moment you might be right and previous fears are proving unfounded – given the current information. If the situation didn’t alter greatly with respect to the world economy, the housing market in Australia is unlikely to move downwards dramatically (since the government has declared itself on the superannuation side of things). But with the information coming out on the US economy day after day over the past few weeks, I would still consider all bets to be off. Some people out there are probably faster at digesting the info (and time proves everything), but to me… Read more »
Greg Atkinson
Guest

Hi Dan, when it comes to the U.S. everything scares me. I do not think the nation would handle a long downturn very well and Obama is going to have to make some deep spending cuts to balance the books at some stage. (and keep the Chinese happy)

But where will he cut? How far will he raise taxes? How with this affect Oz?

Gerry
Guest
Yeah Greg..Some reasons for controlled concern I’d say….Military machines take a lot of funding. It is the big area of expenditure and it keeps increasing with proportional sofistication of weapons. They never can cut without playing second fiddle, and like the soviet union go under economically first. As china, North Korea, Iran and good old Russia (building up again), flex their muscles in the face of economic weakness in the USA it will take some constraint to reduce recurrent expenditure. It will need a new acceptance of place in the world which will be hard to come by.It is not… Read more »
Ross
Guest
Gerry, you can’t compare the rise of anyone soon in the world as a challenge to the USA on military hardware except for the odd rogue ballistic missile or the unlikely insanity of a MAD stink erupting with the Russians over western encroachment into central asia. Russia has one operating aircraft carrier that hardly ever puts to sea and it has half the capability of any of the US ones, and the US has a main fleet of 11 of them plus extras with VTOL/jump ramp capability that smaller nations sometimes label as carriers. Obama is only committing to stand… Read more »
Biker Pete
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I’d have to agree that the claims of 50% falls in realty and 90% falls in rents appear quite far-fetched, even given widespread concerns about the world’s economies, Greg. Frankly, the future doesn’t look too good in the US… and Bill was probably wise to set up a few offshore bases, as have some of our US friends. Not a bad idea to have a safehouse outside the US turmoil these days! Despite the apparent upturn in building starts and sales up to $500K, we aren’t expecting anything but modest gains on our house sales. Rents are different. We’re continually… Read more »
Biker Pete
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Missed your note on immigration, Greg. It does not seemed to have slowed one iota here. That may mean we’re investing in the right locations. There still seem to be a lot of new arrivals. Recent rental enquiries include IT, Technical Engineer, two teachers, mining engineer, dentist. With the exception of the teachers (both wives), the others are on high incomes. All expect to stay. All are happy to pay rents around $400 – $450 per week. One family commenced paying two months before moving in; another three months in advance! We were pleasantly surprised… . We suspect that immigration… Read more »
Lachlan
Guest

Can the US keep borrowing money to fight wars,forever? If not, then what happens next?

Greg Atkinson
Guest

Biker Pete – cheers thanks for the reply.

Regarding the U.S I guess it is the same old story. The bigger you get the more people you bump into who want to take you down. This has happened to everyone from the Greeks, Romans (and before) right up to the British Empire and now the U.S. You then get caught into a cycle of having too many fronts to watch and your resources are slowly wasted away maintaining a large military and fighting endless wars.

Dan
Guest
Lachlan: Military infrastructure is separate from the economy. If a country has food and access to resources, it can and will fund a military. The money is beside the point, ultimately, except that it may restrict a country’s access to those resources. Is this likely to happen to the US? I don’t think anyone is going to put sanctions on them in the foreseeable future, or kick them out of the territories they are currently milking for resources – unless there is a regime change and countries decide the U.S. is to be treated the same as Iran, or (historically)… Read more »
Ross
Guest
Dan, Reagan’s effort says that military spending isn’t separated from the US economy. He ran up virtually the same debt to GDP ratio as GW Bush but his spending was on the govt tick and heavily military biased. Reagan left G (HW)Bush holding the can and gave Clinton his “its the economy stupid” election win despite HW winning the first Iraqi campaign more cleanly than any other foreign expedition in US history. The difference between the current debt and the Reagan debt is the exponential increase in the services economy contribution to GDP which was underpinned by both the foreign… Read more »
rick e
Guest

Two things
1 if the USA needs more bonds sold then they will ask overseas governments to buy them i.e. Australia, Japan, South Korea etc (like the mafia protection money)?

2 if and when the USA dollar collapses would that cause the stock market to fall and cause the next bear market around the world ?.

It might pay for the world to bail out the USA?

Maybe that’s what is happening now? And on and on?

You’d think something has got to give? May be we all are …… (cash)?

Biker Pete
Guest

Hard to know, isn’t it? We imagined we were decoupled from the US, but China’s reliance on US consumption of her exports has meant we resource exporters are (all) shackled to US consumption. Has China’s resource stockpiling loosened that shackle somewhat? Is it a critical component of our relative immunity so far… ? If so, what’s the longer term prospect once The Giant, employing these reserves, is self-reliant for much longer periods? How might we weather that export drought for any extended period?!

Coffee Addict
Guest

rick e : Yes to both of your questions but No it won’t, on balance , pay for the rest of the world to bail out the USA. Other G20 countries have their own financial crises to manage for the moment.

Once the USD gives – and this will probably only happen after deleveraging ebbs off – a good chunk of the US debt will disappear into thin air.

And yes, debtor country governments, including the Australian Government have made periodic comments along the lines that cash is actually quite risky.

Gerry
Guest
Dan..You say “military infrastructure is separate from the economy”. I am perhaps a little slow today and need that one run past me again. when a country has trillion dollar defecits,and runs the best military machine, how is increased spending on weapons, military infrastructure, star wars, defence shieds etc not part of the economy and budgetary process.Why is the money spent beside the point?.How can you suggest it is not a critical issue and area of expenditure to examine if you want to turn around your financial position.I realise they quarantine their military expenditure and it is somewhat sacrosanct but… Read more »
Lachlan
Guest

Thanks replies.
What a funny ol world it is. Take our own nation. K.Rudd says we need to ramp up our defense forces because our neighbours are becoming more powerful. These neighbours include China. This costs a lot of money we dont have so bonds are issued to raise the capital required. Inevitably China etc invest in Aussie bonds therebye subsidising armed forces which may later be used to counter their own.
Money talks I suppose.
And does Kevin really lose sleep at night over China? I doubt it.

Dan
Guest

Gerry: I probably put it a bit poorly. If you separate money from the real economy (the flow of objects around society and people doing things) then clearly the US is not starving – it has food and energy and the means to get raw materials. While these exist, it can support its military. The numbers don’t mean a thing ultimately (especially in a fiat currency) – it’s the failure of an essential component (such as food) that can sink a nation.

Greg Atkinson
Guest

Dan the U.S needs to import oil, so it actually cannot support the needs of it’s military by using the resources within it’s borders. So I think Gerry’s comment is pretty valid.

Dan
Guest
Greg: It has to import a lot of things, but while it _can_ import oil and other things, it can support its military infrastructure. That could have something to do with why it invaded Iraq (if they were so genuine about regime change why did they destroy Iraq’s national infrastructure except for its oil production facilities). Yes, the spending on military by the US has been wasteful (in my opinion), and would have been better spent on domestic matters, particularly supporting the manufacturing sector. And yes, the ridiculous state of affairs of US finances is dangerous, especially for American people… Read more »
Gerry
Guest
Thanks Dan ….comments I made were in the context of the whole military spend inside and outside the country,military bases,new weapons etc.and that this area of the budget has to be a major player with any serious budgetary “razor gang” looking at recurrent expenditure otherwise it will drag down the bottom line further, which is what is probably the most perilous issue facing the US currency etc at present.I Only mentioned the military initially as a major budget item example rather than other implications. Bernanke has had a big spend too, but realises cuts to recurrent expenditure are needed going… Read more »
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