November 26th, 2008 11:44 am | by John Jansen |

The 10 year treasury is flirting with the 3.00 percent level again. Participants view the Federal Reserve announcement yesterday as motivation and impetus for a huge curve flattening trade which is underway as we speak.

Here is some of the logic.

The banking system is taking advantage of the opportunity to finance itself cheaply via the FDIC guarantee program. Goldman (a bank?)  has issued yesterday . Morgan Stanley priced a deal this morning and JPMorgan is pricing one at the current time. The salient point is that hundreds of billions of these will be issued over the next few months as banks take advantage of cheap funding and replace maturing paper. So there will be a flood of issuance in the 3 year sector from that source.

The Treasury has reintroduced the 3 year note and it is a monthly issue and not a quarterly issue. Expect $25 billion per month from that source. That is brand new supply. Fresh cash being raised. That will weigh heavily on the sector.

The funds rate is at or near terminal levels. It has traded recently well below the 1 percent target level. It will not be going much lower. That means that the shorter maturities which are anchored by the cost of funds will not have room  to materially appreciate. Another negative for the short end.

The Federal Reserve program announced yesterday will center on buying longer dated risky assets. $600 billion of them.

Succinctly stated, you have natural buyers and natural sellers of sectors of the curve. In conjunction with an anchored funds rate the flattening process which is underway should continue and probably with 10 year notes and 30 year bond yields plumbing regions one would have thought unthinkable.

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  1. 8 Responses to “Miscellany”

  2. By Kevin Mackey on Nov 26, 2008 | Reply

    Just like a game of limbo, how low can they go? Do you have an opinion as to the inflection points where the long end of the curve is no longer attractive for “material appreciation”?

  3. By John Jansen on Nov 26, 2008 | Reply

    I need to think about that.

  4. By paul on Nov 26, 2008 | Reply

    why does a flood of issuance push yields lower? i would think the opposite – excess supply which would force prices down and yields up.

  5. By Peez Dets on Nov 26, 2008 | Reply

    The Treasuries are in a parabolic blow off phase and are the mother of all bubbles. A truly historical move is on the horizon. Make no mistake: the long bonds will crash HARD

  6. By anon2 on Nov 26, 2008 | Reply

    paul: I think the point being made is that the sellers are in the 3yr sector and the buyers in 10’s and 30’s. So 3-10, 3-30 will flatten. Add to that the search for short-ish term yield from fear of deflation and the 2-3yr should get some support for the issuance.

    Is that right John?

  7. By paul on Nov 26, 2008 | Reply

    thx anon2. that makes some sense to me.

  8. By dude66 on Nov 26, 2008 | Reply

    Boy I’d love it if someone could boil this down to simple layman’s terms. Any takers? What does this portend?

  9. By TechGuy on Nov 26, 2008 | Reply

    With all this Paper being backed by the US gov’t the gov’t is risking its AAA rating. How can the gov’t take on Trillions of risky paper while remaining AAA rated.

    I think we will see another commodite bull market sooner or later, as investors dump cash and into hard assets. The Gov’t is burning down the house in order to stay warm for a wee-bit more.

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