Monday, August 24, 2009

One is the Loneliest Number?

Anyone who has been in the financial markets a mere 10 years, when Treasury rates were around 6%, may wish to reflect on how incredible the quote below from a Michael Cheah is in context, from Bond Bears Dumping Two-Year Treasuries Defy History:

Bond investors that drove two-year Treasuries down on Aug. 21 by the most since early June after Federal Reserve Chairman Ben S. Bernanke said the economy is “beginning to emerge” from recession may find themselves wishing they had held onto the securities. . .

“It’s going to be very difficult for the Federal Reserve to raise rates simply because there’s no inflation,” said Michael Cheah, who manages $2 billion in bonds at SunAmerica Asset Management in Jersey City, New Jersey. “The two-year at a yield of 1 percent is an excellent yield,” said Cheah, who has been buying the securities.

In 2003, when the Fed manipulated the Fed funds rate to 1% because of its alleged fear of deflation, the bond markets went wild; that was the end of the bull market in bonds.

Now there is at least an open question about the value inherent in short money at about zero and 2-year money at 1%. The classic rock song went that one is the loneliest number. It had no friends in 2003. Now that even mild deflation is here and in some other countries, it has a few more friends. I'm keeping an open mind about the Japan scenario, which is that the next economic down-cycle, or a drawn-out weak economy as the recovery moves along, could see the 1% rate being called an "excellent yield" for, say, 5-year paper.

This will not happen if the Aghanistan War mirrors the Viet Nam war, however. Unfortunately, the New York Times reports today that: U.S. Military Says Its Force in Afghanistan Is Insufficient.

The drumbeat for a greatly expanded war in the Af-Pak region is not overwhelming, but it is getting louder.

What is going on in Afghanistan is local politics. It is different gangs of what we would call crooks fighting for the limited loot that horribly poor country can provide, such as whatever poppy seeds can provide. Perhaps it is time, or past time, to buy them all off with bits of colored paper we call Federal Reserve notes, declare victory, and leave. At least the Viet Nam War ramped up at a time of unparalleled prosperity. For the U. S. to afford another big war now would require major sacrifices that Barack Obama is hardly calling for.

He is going to have to fish or cut bait on the guns and/or butter issue, perhaps sooner than he would like.

The polls may be showing him that both paths are popular, but the wise leader has to see farther than the public does. His guns and butter policy failed LBJ and perhaps contributed to his death; a similar decision from Mr. Obama, who is younger than LBJ, would not kill him but could be equally harmful to him politically.

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