14

12/09

The True Danger Lurking Behind 0.00% Treasury Yields and The 1-3-6 Rule Part I

04:33 by Administrator. Filed under: Whatever

by John Galt

December 14, 2009

The 1-3-6 Idea

Many a moon ago, a strange comment was made to me by what might be called a ‘sage’ in the idea of trading in markets of all types. If it appeared that too much money was pouring into one particular investment or vehicle, then something was wrong with the efficient functioning of that market. Forever and a day I ignored this sage and probably should not have. Think about what we have witnessed since the great “crisis” began. In February of 2007 when the first cracks became evident that our subprime society was filled with cracks and that an earthquake was imminent with the failure of several medium sized mortgage lenders, the notion that we should expect an all out collapse was there and certain celebrity investors and talking heads made billions from the idiocy and misfortunes of those who thought that nothing could be whipped into something profitable and the residue they wiped on the curb by that fire hydrant was actually gold.

Oops again.

So when things started to shift violently, I started to listen to this sage who told me in 2007 “watch the short end” and no, that was not related to something pornographic or a hook-up with Tiger at a disco, this referred to the Treasury markets. When one looks at the charts for the three securities at the short end, the 1, 3, and 6 month bills, you understand as to what I am referring to and why I felt the need to call Glenn Beck last Thursday and warn him that something historic was on the verge of happening again.

UST1M3yrjgfla

If this were an actual “recovery” based on historic standards and Keynesian perverted economics, we would have a sustained “V” shaped recovery as the talking Bubbleconomists would profess. Yet 2.8% GDP with the majority of it under the auspices of government expansion hardly qualifies as any sort of recovery beyond statistical voodoo. Too bad America has ignored the last 20 years of what has happened on the economic and political fronts as the data has been blurred at almost every level by political overseers and masters who wish to issue pronouncements that only make the Emperor of the Day look good, no matter how shoddy or non-existent his clothing might be. The chart above tells but one side of the story as that is a weekly chart of the 1 month or 28 day bond yield and the pattern it currently is in should give great pause as 90 days or so after the last visit to these yield levels, the S&P was trading at 666 and the economy was in the turbo crapper shedding 700,000 plus jobs and even more if you subtract political and BLS fantasy markers.

Alas, but even Paul Volcker in an interview with Der Spiegel of Germany said it best this weekend:

We have not yet achieved self-reinforcing recovery.

So maybe, just maybe, this economy is not what it seems and that is why the traditional bastion of reliable faith, the 3 month T-Bill is telling us something also:

UST3M3yrjgfla

The weekly charts do not do this justice. Most are not configured technically for what happened last week when the yields went NEGATIVE to a -0.02% yield and that should have been the screaming siren but I could not get through to enough people to make them understand what the implications of this move really means. In a nutshell tens if not hundreds of billions of dollars are looking to park because of some event in the next 30 to 180 days that is so bad, they are willing to LOSE MONEY and have the guarantee that they get their dollars back intact, be it even at a loss.

The six month yield says the same thing on a 3 year weekly chart:

UST6M3yrjgfla

Again, when adjusted for last month’s CPI this is a loser. Thus why would anyone invest in a company, a municipal bond, etc. when apparently there is a huge perception of future, and I mean very near future, risk on the horizon. What I told Glenn was enough to get him excited enough to cover this on his televsion show on Friday and barring something amazing, again tonight. But what will he say? My opinion may or may not differ, but I shall offer my theory in two parts.

THE TRUE DANGER, PART I OF II

DERIVATIVESQ2

Ah yes, our old friend from the OCC (Office of the Comptroller of the Currency) and that pesky reminder that American banksters still like to dabble in the theory of derivatives regardless of the risk. That chart is correct gang: $203.3 TRILLION is what they are showing outstanding, up again from last quarter.  Despite losses and write offs from the implosion, of that mess we still have $13.4 TRILLION in credit derivatives, the riskiest of the bunch if mismanaged, outstanding. And to think our Real GDP in 2005 chained dollars is only $13.3 Trillion.

GDPCA_Max_630_378That is why Ben Bernanke does not sleep well at night. And neither should any sane citizen if they even remotely began to understand the risks that the financial community undertook to finance the foolishness of the past 20 years. Sadly the banksters did not learn the lessons of their mistakes last year, instead the doubled down and elected to do what an alcoholic gambling addict would do in Vegas; they went to the ATM labeled “TAXPAYERS FOR FLEECING” and withdrew more money and gambled even harder.

The results?

OCCNOTIONALderivitivesJGFLAq2

You guessed it. The top 25 banks, some of whom have gotten bigger due to bank failures in the past years, some of whom needed to be vaporized by Sheila Bair’s FDIC ray gun continued to play the geek’s game of gambling as they were deemed “too big to fail” and thus spurred on by the bravado of only one bad year out of ten, created an even greater systemic risk than before. While that table above might look disturbing, the risks that the top five “banks” look even more dramatic.

TOP5BANKSjgflaDERIVATIVES

Do the names look familiar? Yes, well, they should and that is why I think we are seeing a sudden flight to safety across the board. In this case however, of those banks listed in the top 5 above, I think it might be in the highlighted portion of the top 25 in the previous graph which will be the subject of part 2 of this discussion. The derivatives risk is real and yet after the warnings of so so many experts, the markets and our government have elected to ignore that risk and instead insure it with our hard earned dollars. So what is the risk and how are the top 5 banks so entangled in our Federal Reserve Banks and Treasury? Let’s review some more charts…

OCCP125BANKSjgfla

Five banks in the United States control almost $200 TRILLION dollars of the derivatives market. While 90% of that is probably safe, sound, logical trades that benefit our economy, what happens when the 10% goes into the proverbial toilet? Think about the interest rate swaps gang as many were written recently presuming a stable rate in the 2 year to 10 year price range. Yet the 10 and 30 year auctions last week were less than stellar and if they continue to explode to the upside, what happens to the trillions of dollars in swaps then if the smartest men in America made a mistake? To offer my perspective on those at risk and the risk, here is another chart demonstrating the trading volume revenues from these top 5 banksters:

OCCTRADINGREV

In the top half of this graph I have highlighted the two banks of the top 5 that I believe are still at the greatest level of risk. This is a personal analysis and opinion and should not be used for trading purposes. I only point this out as both of these institutions are still facing huge risks to the downside because of the lack of quality in their core businesses and the deterioration anticipated in the domestic commercial and real estate markets for 2010. In tomorrow night’s installment I shall further analyze the banks adn those that I feel could be the trigger for a massive collapse should the system return to the same level of instability as indicated by the 1-3-6 rule which has not failed thus far.  In the mean time, take note of the Chapter 11 Bankruptcy filing tonight of Fairfield Residential LLC as reported by the Wall Street Journal and begin to understand the implications of dominoes falling in this manner in the Commercial Real Estate arena. The effects of this bankruptcy might seem minor but it is an indication as to what is coming n the next year with the retail sector getting ready to implode at a frightening pace. Tomorrow night we shall review what I call the banks at the greatest risk and how this all ties together into the diving yields providing those who think a warning into the first quarter of next year.

All graphs and data extracted from the OCC 2nd Quarter Report  on Bank Derivatives Activities.

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