Thursday, August 22, 2013

Foreign Treasury Owner Positioning for Higher Rate... But By How Much

The following was posted via Zerohedge earlier today

Consider the following. The Fed has only $50 billion or so in capital. With the Fed now owning over 30% of the ten-year market, every time bonds drop and yields rise, the Fed will erase ALL of this capital. Indeed, Mark Hussman of Hussman Funds notes that even a 100 basis point increase in yields will wipe out the Fed’s capital six times over.

And therein lies the core problem: by expanding its balance sheet so dramatically, the Fed has in effect spread the financial crisis from a private banking level to a public/ sovereign level. Put another way, when the next Crisis hits, it will not be Wall Street banks that go bust but the Fed itself.

Anyone who believes the Fed can “exit” this position is delusional. The single biggest trade for the last four years has been frontrunning the Fed’s asset purchases. When the Fed reverses course and begins selling assets, everyone will dump Treasuries in anticipation.

Indeed, we are already witnessing this with foreign nations selling Treasuries in record amounts in June when the Fed first hinted at tapering its QE programs. Japan and China alone dumped $40 billion that month (of a total $66 billion sold by foreigners that month).

By the way, this was the single largest Treasury dump by foreigners since August 2007. We all remember what followed that (the first round of this Crisis).

The highlights in the  above are mine, and it got me thinking especially in regards to the below chart, which shows the the Proshares Ultrashort 20Y Treasury ETF. Rates- which move inverse to price- have been steadily moving upward since late April or early or May.

This correspond directly with the Fed's start of tapering talk, here as exampled by the search queries trend report via Google.

While foreign holders of US treasuries began to reduce their holdings beginning in the April to May time period, here shown as the monthly change in the TIC data.

Notice how China, Japan (as the largest foreign holders), and all foreign owners of US treasuries have continued to reduce their ownership rates. The question I have after viewing these charts- what amount of durational risk were foreign treasury owners attempting to reduce and have we seen all of it?

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