Bond Auction Puts Focus On Interest Rates

The 'Helicopter Economics Investing Guide' is meant to help educate people on how to make profitable investing choices in the current economic environment. We have coined this term to describe the current monetary and fiscal policies of the U.S. government, which involve unprecedented money printing. This is the official blog of the New York Investing meetup.

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The U.S. is auctioning off $81 billion in government debt this week. This is just a small part of the never ending supply needed to fund trillion dollar budget deficits as far as the eye can see. The Fed officially stopped its quantitative easing program to buy treasuries on October 31st, so it will be interesting to see what happens to interest rates in the next two or three months. The most vulnerable part of the interest rate curve has always been the 30-year. Foreign central banks have moved their purchases to shorter dated paper and the Fed itself concentrated on buying in the 7 to 10 year range. If the Fed restarts its quantitative easing program (and this is a possibility) it will resume purchases of bonds with those maturities. The 30-year is orphaned without major supporters no matter what happens.

This weeks auction includes $25 billion in 10-years on Tuesday and $16 billion on Thursday. Bonds prices are rallying today (and interest rates going down) even though supply is increasing. This defies free-market behavior and should make it clear that the bond market is regularly highly manipulated in the short term. The Fed notched the usual manipulation up much higher this year however. Figures from the second quarter indicated the Fed bought 48% of newly issued government debt ... and it did so with newly printed money. While the mainstream media has constantly reported that demand for U.S. bonds has remained strong this year, it almost always fails to mention that it is because the Fed is making a substantial percentage of the purchases.

Rising interest rates will be one of the last legs of the inflation trade to kick in because the government has a lot of control over them. The U.S. 30-year interest rate has been in a 27 year downtrend with a yield peak of just over 15% in September 1981 and a bottom last December at just over 2.5%. A rise in interest rates to around 4.8% will break a downtrend line from 1987 (when Alan Greenspan became Fed chair and easy money became the norm for U.S. monetary policy). When 30-year rates can break this level and stay above it, a multi-year rise in interest rates will begin.

In the short term the daily interest rate charts are bullish for the 30-year ($tyx or ^tyx). The 50-day moving average has been trading above the 200-day since last May. Both the 50-day and 200-day are moving up. After the rally from last December to this June when the 30-year rate doubled, the yield fell back to and bounced off the 200-day moving average. So far, this looks like it was the end of the retracement and the perfect buy point. The short-term uptrend is still in place and will remain so as long as the 200-day moving average keeps going up. When it occurs, a decisive break of the 4.8% yield could lead rates up to 6.0%. There are two leveraged ETFs that traders and investors can use to go long 30-year interest rates (the same as shorting the bonds), TBT and TMV. TBT represents a 2X short of 20 to 30-year treasuries and TMV a 3X short of 30-years. Both of these can be highly volatile.

Disclosure: Currently long TBT and TMV.

NEXT: Gold Rumbles as Dollar Crumbles

Daryl Montgomery
Organizer,New York Investing meetup
http://investing.meetup.com/21

This posting is editorial opinion. Like all other postings for this blog, there is no intention to endorse the purchase or sale of any security.