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$2.5 trillion to refinance?


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From Dave Rosenberg: "We are not sure if this is a well known "fact", but the U.S. government has a record $2.5 trillion of its debt, including bills, bonds and notes, rolling over in 2010. That, my friends, is 35% of the outstanding level of Uncle Sam's marketable obligations having to be refinanced in one single year. "

 

I am not sure where to go to verify this "fact", but it seems unreal in terms of impact. Once in a while, we hear about a "big" $40 billion treasury auction coming out and they are worried on how it will be received. To complete this refinancing, they need to issue $50 billion a week non-stop for all of 2010.

 

Commentators at the moment talk about the yield curve and how big the spread is and how great it is for banks. The 30 year is now at 4.56%. I think that they fail to recognize that it will start to be quite negative for long term mortgage rates. At some point, it will also represent competition to the equity market with a small dividend yield just above 2%. The big question for me: Is the long bond market already pricing in the huge supply coming up or is it just starting to recognize it?

 

Of course, the Treasury could issue more and more short term notes to refinance, but it just seems to delay the inevitable.

 

What do you think the impact of this will be? Is it just noise or is it something equivalent to the housing bubble with real ramifications for the economy that even value investors should pay attention to? 

 

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There's $2.5 billion that needs to be refinanced....but that also means there's $2.5 trillion in cash coming down the pipe to existing treasury-holders that needs to be re-invested in something.

 

I don't see this as a major problem.

 

SJ

 

It's not a major problem if the lenders of the 2.5 Trillion cash are other than the Fed who would simply create the money, hence further dilluting the purchasing power of all other US bucks. Unfortunately it looks like the US is out of other lenders, especially at low rates.

The outlook therefore is increased rates and QE and subsequent price inflation. Stock prices may benefit from the excess liquidity in the short run.

 

Check out the different measures of CPI inflation at shadowstats:

 

http://www.shadowstats.com/

 

No matter which one you choose the trends are clear, more borrowing will only confirm and extend these trends.

 

Best hedges in my opinion...  FFH ... best and most experienced bond traders/hedgers out here. Nice portfolio of inflation indexed bonds

 

                                      TBT...  Proshares Ultrashort 20+ year Treasuries ETF

 

Cheers

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There's $2.5 billion that needs to be refinanced....but that also means there's $2.5 trillion in cash coming down the pipe to existing treasury-holders that needs to be re-invested in something.

 

I don't see this as a major problem.

 

SJ

 

It's not a major problem if the lenders of the 2.5 Trillion cash are other than the Fed who would simply create the money, hence further dilluting the purchasing power of all other US bucks. Unfortunately it looks like the US is out of other lenders, especially at low rates.

The outlook therefore is increased rates and QE and subsequent price inflation. Stock prices may benefit from the excess liquidity in the short run.

 

Check out the different measures of CPI inflation at shadowstats:

 

http://www.shadowstats.com/

 

No matter which one you choose the trends are clear, more borrowing will only confirm and extend these trends.

 

Best hedges in my opinion...  FFH ... best and most experienced bond traders/hedgers out here. Nice portfolio of inflation indexed bonds

 

                                       TBT...  Proshares Ultrashort 20+ year Treasuries ETF

 

Cheers

 

I'm not sure that I fully understand your observation.  Are you suggesting that the fed might print an additional $2.5T to re-pay the existing treasuries instead of simply rolling them over? If so, then I would agree that there could be a bit of an inflation problem if we add an additional $2.5T of high-powered money to the financial system. 

 

On the other hand, my point was existing treasury holders need to do something with the cash that they will get upon maturity.  Many of them will once again be seeking to buy treasuries as a "risk-free" investment option.  As a result, there should be no trouble attracting most of that money back into the treasury market.  Would an insurer like FFH ever suddenly stop buying treasuries?  Obviously they increase and decrease their treasury allocation on a regular basis, but they are never completely out of that market.  Same deal with pension funds and other institutional investors.  They will always be in the market to some extent.

 

Even foreign holders of treasuries have limited options.  If they choose not to roll over their investment into new treasuries it will probably be due to fear of a declining US dollar...in which case they would likely want to avoid all dollar-denominated investments.  Frankly, it's pretty difficult for all foreign investors to run for the sidelines en masse.  The US is just too important from a market cap perspective.  There's not enough quality securities in the rest of the world to run towards.

 

SJ

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StubbleJumper,

 

Your logic is correct. Overall it should roll-over: some will take cash and move on, most will roll-over and some new players will come in. I think that the problem is not the roll-over of the total amount, but will the terms be similar: durations, rates?

 

Then once you combine this unusual amount of activity with "new" treasuries that will have to be issued to absorb the deficit, I am wondering if we cannot get into some sort of dislocation. Kind of like the roll-over of commercial paper last Fall that came to a halt even for good quality issues. The U.S. deficit was $1.4 trillion for 2009 which ended Sept 30. The forecast is for $1.5 trillion in 2010.

 

Long term treasury yields are moving up quite fast now. I see smoke, but no fire yet.

 

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Munger's general thesis on this is that that the value of US assets are also rising with debt. This was not the case for the last couple of years...but they will be just a blip on the radar of history. Asset values will rise in the US over time and so will government revenues...everyone has calculated a trillkion dollars to bailout the banks when in reality they will not only get the trillion back they will make money on it.

 

I would refinance if were a major country. would you? I think the answer is yes. Those that keep screaming about this have gold positions that they are trying to profit from ie Sprott. I do not think it is a problem.

 

Dazel.

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"Although the current account will narrow and fewer funds will recycle into the U.S., it is important to review the portfolios of foreign investors. Based on the latest available figures, the foreign sector held $9.1 trillion of long-term securities (Table 2). The Treasury department considers long term securities to be those with an original maturity of more than one year. As this table indicates, equities comprise 34% of foreign holdings, the highest for any category, followed by 30% in corporate bonds, 22% in Treasury securities and 14% in Federal Agency securities. The holdings of U.S. Treasury securities are primarily in the short end, with 70% held in 5 year or less maturities, 23% in 5 -10 year maturities, and just 7% in greater than 10 year securities. Thus, the shrinking U.S. capital account surplus is likely to have its greatest funding impact on the corporate bond and equity markets. The short-term Treasury market could be adversely affected, but the Fed is able to control the short-term rates." - Hoisington Research, Q4 2008 Update.

 

The $2.5T definately feels ominous.  However, the perception of the highest quality asset for the past 3/4 century collapsing in a mere year-or-two is an overstatement. In the end, the market will find a balance of interest yield the treasury bonds need to attain to entice foreign investors (...and all investors), to start to sell their other holdings and into $US treasuries.  If that equilibrium price is say 5%, or 6% on the long bond -- and the tide turns to selling other securities to buy the $US treasury, the snowball of selling of 'less secure' assets to get into treasuries starts to become self reinforcing, and another recession or debt-deflation cycle starts.  If the $US Treasury bond needs to 'compete' with other lesser securities (corporate bonds, equitities, lesser government bonds, etc), it will 'compete-to-win'.  The US government seems to be employing a perverse strategy of selling shorter duration $US treasuries when demand is lower, until the long end touches the equilibrium price that initiates selling other securities to buy long dated treasuries, and then 'covering' the short-end treasuries with NEW long dated treasuries at better prices will allow the US government to continue to run their budgets for some time to come.  The expense will be lower prices for risk assets (e.g.: continued lower corporate bond, and stock prices) -- as US treasuries take a greater precentage of the global capital supply.

 

cheers,

Vinay

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IMO, this issue has one point in common with the housing bubble. If you remember, home prices started to come down in 2006, not in 2008. Then came the two Bear Stearns hedge funds that collapsed in the Summer of 2007. It took over a year after this huge warning sign until the market really unravelled. So I think that this overhang of U.S. bonds has the potential to become a huge problem down the road. Most observers dismiss its impact or just like it was for the deflating U.S. housing bubble.

 

The issue for me has been selecting the right instrument.

 

1- TBT is a 2X short ETF 20 year U.S. treasury index. Recent history has shown that these leveraged ETF's are not good long term investments. If you are correct right away then it will work fine. Unfortunately, if you are temporarily wrong, you could see no gain and even a loss for being right in the end.

 

2- Short TLT is another option (long ETF 20 year U.S. treasury index, but 1X). Karen Finerman on Fast Money is using that approach. It is not as exciting as TBT and you will have to pay interest to holders, but if you hold longer term, you are guaranteed to match the inverse result of that index. Although, is it worth it? Are the gains going to be big enough to justify getting into this position? Long bonds don't double and triple or come down 50 to 75% like stocks.

 

3- There are options available on TLT and TBT to augment returns. But, before you augment returns, you have to gain enough to repay your premium which is not guaranteed depending on timing.

 

4- Constant maturity swaps as discussed by Chou and Klarman seem to be the ticket. They are cheap, long term, but they must require a fair bit of margin power. They also seem available only to institutions. I have checked and I cannot get my hands on them. If one of you has found a way to buy these contracts I would love to know how you did it.

 

So I think that selecting the right instrument is very important to take advantage of this thesis. TBT was attracting me until I started to realize that if the U.S. stock market corrects near term, that long bonds are likely to rally. A knee jerk reaction if you will but, very painful if you are into a 2X ETF. You need an instrument that will fully reflect what will happen longer term and not something that will be wiped out by short term variations. Gold and silver are also alternatives, however they are not 100% correlated to a drop in price of long term bonds. They should be bought on their own merit and they are also likely to correct along with the U.S. stock market if recent history repeats.

 

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The problem of course is not just related to debt refinancing or rollover, but financing an increasingly widening US deficit.

 

The problem has become who is going to buy the debt? and the problem is greatest now, this year, making, in my opinion,

TBT a timely, levered hedge on rising long term interest rates.

 

http://www.shanghaidaily.com/article/print.asp?id=423054

 

My opinion only.. subject to change if the world embraces rollover and new US debt at current rates of return (i.e negative real).

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Keep in mind that if you're going to roll it's highly unlikely that you'll go with anything longer than 180 days; simply because global future rates are expected to be higher than they are today. The bubble gets bigger, the duration shortens, & volatility rises; hence a market distortion is largely enevitable.

 

That 2.5T is also understated. An individual US state that can't roll its debt can effectively refinance with short-term debt backed with a federal guarantee - & some big states are in deep sh1t.

 

We've allready seen sovereigns increase rates (Australia) to dampen inflation, & its highly likely that others will follow within 6-9 months (Canada). Hence the US either raises real rates to mantain the roll-overs, or it prints $ to immediately inflate & devalue the USD (& promote trade). Each has ugly consequences.

 

The cheap money is coming to an end.

 

SD

 

 

 

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One symptom of the cheap money coming to an end may be the rising yields on longer-term T-bills. If the federal government is having troubling rolling over debt already this would explain why rates are higher even though there is not yet a clear sign of inflation. The steep yield curve is a sign of harder debt refinancing not a strong recovery as some economists may be predicitng.....

 

cheers

Zorro

 

 

Keep in mind that if you're going to roll it's highly unlikely that you'll go with anything longer than 180 days; simply because global future rates are expected to be higher than they are today. The bubble gets bigger, the duration shortens, & volatility rises; hence a market distortion is largely enevitable.

 

That 2.5T is also understated. An individual US state that can't roll its debt can effectively refinance with short-term debt backed with a federal guarantee - & some big states are in deep sh1t.

 

We've allready seen sovereigns increase rates (Australia) to dampen inflation, & its highly likely that others will follow within 6-9 months (Canada). Hence the US either raises real rates to mantain the roll-overs, or it prints $ to immediately inflate & devalue the USD (& promote trade). Each has ugly consequences.

 

The cheap money is coming to an end.

 

SD

 

 

 

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