No matter what the US economy does, we believe that in the long-term US Treasuries are in big trouble. The 30-year Treasury has fallen 22% year-to-date. Despite this sharp fall, however, the long-dated Treasury is still yielding 4.1% which is still very low by historical standards. If the economy shows the slightest sign of recovery, long-term yields are almost guaranteed to rise from the recent lows toward more normal levels.
Yet, with so many structural problems in the world’s economy, who really believes that the economy will heal any time soon? Suppose we stay in this “recession” for a while longer, and suppose the Keynesians continue to rule the world, the government will continue to spend more to get things going again. Dwindling tax revenues will cause the government to issue more Treasuries to finance new spending. The liability side of the government’s balance sheet will continue to swell; and debt ratios deteriorate. Credit ratings, and hence prices, of U.S. Treasuries will plummet!
Of course it may not necessarily end this way. The alternative is that the Fed may emerge to make a rescue attempt. However, we already know this rescue will fail. We have already seen this move before. In March, the Fed announced that it was going to buy $300 billion worth of long-dated Treasuries. Treasuries jumped for a day or two after the announcement, but they have resumed falling since. Even if the Fed succeeds at propping up Treasuries, it will only be because of the printing press (Bernanke has famously said that he would “drop money from a helicopter”). The US Government will not default, Treasuries will be repaid, but with paper that, may not exactly be worthless, but will definitely be worth less. This has very bullish implications for commodities and certain sectors of the equity market (namely commodity and energy sectors).
Four ETFs to take advantage of weak US Treasury markets:
