Failed Auctions?
Posted by Ray on March 25, 2010 under Main | 
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The smart money is always in the bond market, mostly because it is institutional money instead of retail investors. Anyone watching the last 2 treasury auctions see something wrong, a major problem in fact. The auctions were duds, dare I say failures? The primary dealers are taking in a large swath of the last 2 auctions, this has actually been a trend over the last few weeks, and the direct bidders are now gone. Yields are perking up to levels not seen in months, something isn’t right.
Whether it is sovereign debt or the markets frothy valuation, the bond market is signaling trouble ahead. Yields are not increasing for any good reason other than there is no demand for the hundreds of billions the U.S. needs to raise to keep the lights on. Perhaps the market has had enough or the Chinese are just not buying because Krugman and Schumer called them currency manipulators, you never make your largest lender mad at you when you need to raise billions of dollars.
Either way you look at this there is a problem and I do not know what it is other than a general buyers strike. However, what scares me is that this is following some historical events. In the late 1970’s there was a huge treasury bubble and rapid inflation, this is no secret, which led to the dollar’s decline in value. This was no big deal until the treasury bubble burst in 1980 and the treasury market imploded. What happened was treasuries sold off and the primary dealers, still in bubble mode and required to suck in supply, began to buy when prices went lower. Their thought was this was a steal, it wasn’t. This happened for a few days and prices continued to decline to the point where the primary dealers were on the verge of failure.
This was a serious situation as the companies that raise money for the government, the primary dealers, were almost all gone because of massive losses, they bought on leverage of course. This led to Volcker doing what he is famous for and Carter issuing credit controls. No one talks about this, and I overly simplified the story, but it was perhaps the days that almost ended America. I am not saying this is happening now, but if the primary dealers have to bring in supply and the prices on treasuries keep dropping, this could be a major problem. Of course, everyone is too big to fail, but still.
While I do not know if this is a short-term problem or the beginning of bond buyers telling the U.S. to get its act together, I believe it is the vigilantes, I do know this has serious potential problems. We need to wait to see what happens over the next few weeks, but more ‘failed’ auctions may be a problem bigger than a worldwide embarrassment, but our lenders cutting up our credit card. This will lead to more quantitative easing and dollar destruction which would mean we would actually begin to see higher prices without money velocity, don’t think that can happen? It can and just might happen.
Most disturbing is that we are talking 5’s and 7’s that could not get placed, that is easy paper. I sure hope Washington is worried enough to take the national debt situation seriously after this week. If they do not we all could be in for a rude awakening very quickly.
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