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More Bad News From the Treasury

The Treasury market buying panic continued this week with technical signs pointing to a 10 year yield possibly as low as 1.80, or even 1.60. That would be bad news for stocks.

While the indirect bid remains about 25% below last year’s level at the Treasury auctions, foreign central banks have increased their buying in recent weeks to 25-30% of the new paper the Treasury is auctioning. That is contributing to the short squeeze/buying panic in longer term Treasuries. Margin calls to the large shorts are contributing to the panic, and also causing liquidation of stocks. The up phase of the FCB short term buying cycle is due to end now. That will remove a big prop from the Treasuries, and could mark the end of the rally. If the high is at current levels, it would be the lowest level of peak buying in at least the past 4 years. It would be a very bearish sign, not just for stocks, but ultimately for Treasuries. The rally cannot be sustained for long without FCB support.

Investors continue to have good reason to be fearful about the US conomy. Tax revenues fell apart this week, necessitating the Treasury to sell a huge cash management bill. It will almost certainly need another one next week. Not only does this data continue to signal a rapidly weakening economy—remember we first saw the signs in June while everyone was still gloating over the recovery—but it also gets down to the real nuts and bolts of supply and demand. The markets are in no condition to absorb additional supply, but absorb it they must. Forced liquidation of stocks is almost a given under the circumstances.

The TBAC recognized the problem by increasing the size forecasts of the bill auctions for the rest of August in the estimates it released on August 3. But it did not anticipate the need for these massive CMBs. They also made the egregious error of assuming that everything would be just hunky dory in September, sharply reducing their expected bill funding forecast for September. I expect things to go in the opposite direction. I just have a sense that the wheels are falling off.

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