Friday 19 August 2011

Who understands the US bond market?

Would I sell equity at these levels to buy gold and US treasuries? No chance in hell; on paper anyway. Even so, smart investors are doing exactly that and it seems, amazingly, that a new chapter is being written in modern investment theory. Generally accepted conventional theory dictates the sale of bonds, (after a sovereign downgrade) and the purchase of equity on strong corporate fundamentals. Yet the reality is different.

So what's going on? The first thing I noticed was very little change, if any, in the dollar / euro cross. Why? Who's buying US treasuries then? The same can be said for the yen. If the Japanese were buying US treasuries they would be selling yen and yet the yen continues to strengthen against the cross. That's also strange.. The S&P 500 is already discounting a substantial collapse in corporate profits in the short / medium term on fears of a decline in global demand. Equities are, conventionally speaking, severely oversold on current fundamentals. International dividend yields, particularly in Europe, have become very attractive; some of the best multinationals paying as much as 6%. As long as companies pay the dividends (cash on balance sheets is high) I see NO reason whatsoever to buy US treasuries yielding almost nothing. So that doesn't make any sense either.. There is, however, a very real technical possibility that the US 10yr will test new yield lows of 1.8%. If that's true, then US equity prices should fall, on average, 6-8% given recent mathematical correlations between equities and bonds in the US. That would be strange too..

Marginal downward adjustments in growth have been penciled-in for emerging markets. Growth levels of 6%, on average, are still expected.

The interbank rates in Europe are high but nowhere close to levels seen in the financial crisis late last decade. Notwithstanding, smart investors, whoever they are, still see the US 10yr as the ONLY acceptable safe-haven investment left anywhere in global markets and yet currency markets remain static or even counter-intuitive. That's interesting if not a little unconventional..

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