Another End of Day Breakdown

At least ERX appears to be. I’m waiting for the rest of the market to follow.

Comments »

I am setting up to have a grand day, as crude oil is down one and a half percent and gasoline is down almost 1%, over the dead bodies of oil bulls pushing for higher energy prices.

Yet ERX thus far is vexing me, up over 2% in premarket trading. It should not take a genius to accept that these are somewhat contradictory approaches.

Today, I may just cover my short ERX position. I do not enjoy being crushed beneath a potential Greek bailout. No sense in fighting crazed maniacs who may go full long, should this Potemkin issue be resolved. Never mind that the European affairs weren’t what sparked this sell off to begin with.

There are idiots about, and reasonable facts and truths as thus will not faze them.

Comments »

Have fun today.

Update:

Comments »

There is something that concerns me, with regards to the treasury market.  As a point of interest, I cannot help but get caught staring at the yield curve, which seems to be suggesting anything other than present realities in the marketplace.

Take a close look; can you spot anything amiss?

Please notice that despite the immense discussion taking place in the halls of Congress (one which I would be at fault to omit directly impacts the confidence of the treasuries), the curve remains in what could be designated its normal distribution.

By that, I mean as most of you likely accept without question, in addition to a sort of linear accumulation of interest over time, extra interest is garnered by outward maturity dates, designed to encourage investors to commit to longer durations, resulting in the easily identified exponential distribution you all are so familiar with.

So what’s the problem?

Well, the formation of that standard pattern takes place on the backs of certain assumptions.  Just throwing a few out there:

1. Demand for the underlying currency must be present to form demand for the treasuries.
2. The markets need to be attentive enough to quickly remove/exploit inefficiencies to form that sort of shape. AND…
3. In conjunction with (1) and (2), the risk of default needs to be uniformly distributed across time.

The first assumption basically says that all bets are off when the dollar’s value changes.  If the dollar strengthens, it can flatten the entire yield curve.  If it weakens, it can expand the yield curve.

The second is just obvious, since treasuries are traded through a bid/ask process.  There are times when the curve can be expected to not look like that normal shape everyone is accustomed to.  People need to be sufficiently motivated, most notably through profit potential, to take positions that remove the “easy money” from the curve and general drive it back to that common shape.

And it is therefore the third assumption I listed which has me worried.

See, if certain times are more prone to default than others, the whole concept should get thrown out the window.  When we compare that with the magnitude of the default, I would anticipate that a whole assortment of other patterns should be realizable.

For instance, if the government completely collapses and defaults, the whole curve should go to zero.  That one’s easy so I’ll get it out of the way.

Now, I would hypothesize that, where we are right now, the yield curve should look something more like this:

Basically, you can’t have the yield curve approach its most efficient form with near zero error when big looming questions about the ability of the government to pay, in the immediate future, are left unanswered.

And that doesn’t mean the yield curve goes to zero either.  Here’s what I’m thinking.

Suppose the U.S. Government should default over the next few months, on account of a breakdown in talks of the debt ceiling (assuming the government will default if they don’t raise the ceiling, of course).  Well then, in spite of some of you screaming for the apocalypse, there’s actually a good chance that they can get their act together and scramble together a budget that will free up sufficient funds to start paying again, going forward, at some point in time.

For the purpose of painting the picture, let’s just say the government defaults in August, then starts making payments again in January.

Now, what effect would this have on the various levels of the holders of government debt?

Interestingly, I’d suggest that people holding the short term maturities are in the worst shape.  Consider, if you’re holding a 3 month bond at .2% interest rate, and suddenly you aren’t getting paid for 6 months, well then you’re actually holding a promissory note with a 0% yield.

However, if you’re holding a 6 month note, then you’ll be paid right on schedule, in full.

But if the government should take more than 6 months to start making debt payments again, well suddenly both 3 month and 6 month bonds are basically risky ways to get your premium caught in limbo, as your already slim profits start getting stretched toward zero yield.

Yet, if you’re holding a longer duration bond, then you start talking in terms of the coupon.  If you miss one coupon, or even two, does it substantially impact the investment’s returns?  I’d guess “no” is the answer to that question.  Future returns will easy gloss over the delay of payment, in the big picture.  The risk to a longer maturity bond, assuming the government will be able to pay again one day, is minimal.

And that’s what has me so bothered right now.  Why aren’t the short term maturities sporting higher yields?

The compliment to this discussion is what people should be doing in practice.

Let’s say you’re a bond investor, clutching some short term maturity T-bills.  Now, if you don’t get paid, not only are you not seeing your earnings, but you’re also looking at having your money held in financial purgatory.

That end alone should be pushing people to sell the forward months.

But if you’re already in for 30 years then you probably don’t care as much because your principal is tied up anyway.

Since the short term maturity holders have more encouragement to sell, I would really expect to see the yield curve break from the normal distribution.  That would require the spot price for those bonds on the market to get eviscerated, as people opt to cash out rather than risk waiting to see.

And when you start to question why that’s not happening, it leads to a whole other host of questions.  I’ll write more on it later.

Comments »

ERX is down more than 4%, a magnificent explosion lighting up the sky line.

The 9th floor revels in the smoke, as I cackle merrily at the carnage.

Thus far, I am up about .2%, victory muted by CCJ. This selloff seems to be saturating the whole of the energy markets.

Brace for further downside.

Comments »

I don’t trust this rally to hold, having already witnessed the bounce last week getting broken against the shoreline. While we are well overdue for a bounce, with the currency issues remaining unaddressed, any movement is circumspect.

Crude oil is continuing to slide. In addition, reports coming out of Asia are suggesting a slowdown in the East.

PM’s also did an about face, and silver is now down more than 2% as I type.

I am quite busy today, and most of this week, so my presence may be sporadic. However, I will push to address pivotal developments as they come. I am still looking to add to cash as the price conditions permit.

Comments »