By: Elliot Turner
A lot has happened in a short time with Treasury markets. On February 9th, equities had yet to bounce back much from their late January beating, the Dollar had broken out of a bull flag, and Treasuries seemed poise to breakout of a giant triangle formation. Within a week, equities had rallied sharply off of move lows, and Treasuries dropped (although the Dollar stayed strong throughout!). When the Federal Reserve Bank surprisingly raised rates at the discount window by 25 BPS, Treasuries, using the TLTs as a proxy, broke down through recent support and below the lower trend-line of the aforementioned triangle formation.
The false breakdown of last week was accompanied by very weak volume and could not hold lower with any conviction. As is often the case, after a false move, comes a fast move in the opposite direction. Off of today’s dreadful consumer confidence (or lack thereof) number, the equity indices powerful bounce off of the February 5th lows reversed back down with conviction and Treasuries spiked higher in price. It seems inevitable that the TLTs retest the top of that downtrend line and maybe even breakout at this point.
Often times when sentiment shifts to extremes we see a contrarian move. As far as Treasuries go, how many times in recent days, weeks and months have you heard that: “Treasuries are a guaranteed short? Treasuries are the easiest short? If I owned Treasuries, I would sell them all?” Well when it sounds that easy it usually never is. I am not saying that Treasuries necessarily will rise; however, what I am saying is that considering the persistent deflationary pressures in the U.S. economy (again, look at the consumer confidence number and this week’s CPI data) and the relative weakness of other nations’ sovereign debt (look at the PIIGS, etc.) there remains no safe-haven for investors to park their cash.
Much like with the Dollar reversal, when foreign central banks started buying dollars or curbing inflows of dollars in order to protect their own exchange rates (Brazil and New Zealand are two prime examples of this), foreign demand continues to increase for Treasures. Many point to waning demand from China as a catalyst for downside in Treasuries; however, demand has actually increased from the U.K. and Japan. This is all a relative game, and when the U.K. government and Japan are taking on debt as a percentage of GDP at a much higher rate than the U.S., their banks and citizens will look elsewhere to store their money. Despite the burgeoning U.S. deficit, no debt in the world is safer to own than the U.S. government’s. As always with investments, be especially wary of THE sure thing.
The pricepoints to watch are $91.50-92.30 on the upside and the $88.50-89 areas on the downside. Here is the visual:
UPDATED: I just published this, but I realized I should have said something important. Over time Treasuries will in fact go down, as yields and interest rates will eventually rise in the U.S.; however, that before that move does happen, there can very well be what some would deem an “irrational” move in the opposite direction. As Keynes said, “the market can stay irrational longer than you can stay solvent.” Look no further than Japan. A spike in Treasuries would not be an irrational move in and of itself, as much as it would be a reactionary move to a second wave of credit crunch hitting the United States economy.
