Will Bond Yields Soar When QE2 Ends?

Gary Alexander looks at the question:

In the past three years, the United States has borrowed $4.6 trillion. About half of that came from foreign sources, led by China, but China has been a net seller of U.S. government securities since last October, when their dollar-denominated debt holdings reached $1.175 trillion. Six months later, that hoard is down to $1.14 trillion, for a net sale of about $35 billion. Other nations have filled the gap. Japan added $16.7 in Treasury debt and the UK added the most, $86.5 billion. Most of the rest was bought by Mr. Bernanke.

Overseas bond demand is drying up. The total net monthly purchases of Treasury securities by foreign investors fell from $118 billion last August to $27 billion in March. Many foreign buyers rightly conclude that the bond auctions are “over-subscribed” because they are rigged by artificial demand from the Fed. Even though the 10-year U.S. Treasury bond rate has declined since March, rates are up 60 basis points (from 2.5% to 3.1%) since November 4, 2010, when the Fed made its initial QE-2 announcement.

Bond buyers can only profit if Treasury rates go lower, so most big institutions are shying away from T-bonds now. BlackRock, the world’s biggest asset manager, said it is underweighting Treasuries, as is the bond team at Loomis Sayles. The leading bond guru, Bill Gross, manager of the world’s largest mutual fund, has been out of Treasury bonds since March, due to concerns about the end of QE2. This week, he denied he was “short” Treasuries, but in March he said, “Who will buy Treasuries when the Fed doesn’t?”

This leaves the private pension funds, banks and big insurance companies. But they won’t buy many Treasury bonds, either. Look at the recent weather for a reality check: Property insurers must now service record damage claims from an unprecedented string of tornados, last year’s Gulf oil spill, fires in Texas and mudslides in California. Private pensions are also wary of low-yielding Treasuries: The University of Texas trust fund just opted for $1 billion in gold bars instead! Health insurers are also in limbo: They don’t know what to expect from Obama Care. States will try to float their own bonds, not buy T-bonds.

Posted by on May 28th, 2011 at 10:43 pm

The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.