Treasury Bonds, QE2, and Futures Trading
At the end of June, the Feds quantitative easing program, QE2, where Bernanke purchased $600 billion worth of long-term U.S. Treasury bonds, is scheduled to end. His motive in creating QE2 was to push down long-term interest rates. Understand, the $600 billion is on top of the $1.25 trillion the Feds bought of CDO toxic assets (mortgage-backed securities.) Right now Treasury Bonds have been rallying even though they are hitting their lowest yields. So what will happen in a couple of weeks? Let's look at some possibilities...
First of all, what is the real definition of "quantitative easing". In reality, it is "printing money," creating money out of thin air. Here's the theory behind QE (1,2, or maybe 3). The Feds buy bonds, bank toxic assets (CDO's that, themselves, were never based on real mortgages but instead were the same mortgages sold again and again), etc. They purchase these, for lack of better word, securities, with a "check". The banks who sold the securities to the Feds, then deposit the checks into their banks, assumingly with the understanding that they could then make loans to large and small businesses, and voila, the economy improves.
But what really happens. The money supply does not expand, the economy faces double dip recession. We have already experienced a double dip recession in housing. The unemployment number has ticked back up to 9.1%, and that is what the Government admits. Those unemployed for long duration have not found work. Companies have actually been advertising that to be hired, you must already be working. And to add injury to insult, inflation has stormed into "Main Street", with gas prices at $4 and $5 a gallon, basic commodities, such as milk, bread, meat and vegetables soaring. It is so bad that markets are now decreasing package quantity to try and hide the increasing prices. According to the the SBA's Office of Advocacy, lending to small business which has been the mainstay of any job growth for the last 2 years, fell by $43 billion (6.2%) in the last two years.
For the last several auctions of US Treasuries, the Fed has really been buying its own bonds behind the scenes. Last couple of weeks, the Fed bought $7.68 billion of notes in the 5-6 year range. Why is the Fed buying the bonds and notes it is auctioning? For the last several months, the Chinese have been major sellers of US bonds, not buyers. According to the Fed's monthly TIC report, the only buyers of bonds and notes were the Japanese and the British. But since the Tsunami, Japan is selling bonds to pay for their own recovery. Why are countries selling bonds? It's no wonder countries. The 10 year note's yield is now at 2.97% and the 30 year bond is at 4.18%. Compare that to the yields of other countries. Spain's 10 year note is at 5.48%, Ireland, 11.25%, Portugal, 10.9%, not to mention Greece which is now at 25.74% (but they may default so it doesn't matter what that rate is). There is a lot of global competition for bond purchases right now.
So what will happen at the end of June when the Fed stops underwriting its own Treasury auctions? Just how high do bond yields have to go before they become interesting again to foreign investors? And will Congress block the increase in the debt ceiling, forcing bonds even higher? Surprisingly, forecasts today are showing by December the 30year bond yield will still only be at 4.25. The question is...will there be anyone to buy the bonds?
Right now it is not a problem. Why? Because for the last 6 weeks the stock market has been sliding. The NASDAQ has lost all of its profit for the year. Without anyone really taking notice, the Market went into a bearish correction. From its high at 12,807 in May, the Market has fallen below 12,000 to 11,952 in June. That's nearly a 7% correction. And summer doldrums have just begun. As we know, traders buy stocks and sell bonds OR they buy bonds and sell stocks. With summer just underway, bonds could remain popular until the last week in August. What happens the last week of August and the day after Labor Day...the fall cycle begins. Always remember, the Market spins on just one thing: bonuses. As of now, hedge fund, retirement fund, mutual fund managers are not looking at much of a bonus. Starting the last week of August, beginning September, the Market turns up and becomes bullish. That way the fund managers can make their bonuses and the investors can pay taxes on what they buy and sell.
Barbara Cohen CIO, Shadowtraders, and professional day trader, specializes in teaching students how they can be trading futures with their own trading system and trading strategies. Ms. Cohen has helped hundreds of traders achieve their goals trading. Find out if trading futures is for you by attending one of Ms. Cohen’s Free Webinars. Check out my Futures Trading Articles. For more information, send an email to shadowsupport@shadowtraders.com or call 866-617-2037 today.