USA: How China will drive America's bond yields
Summary
Amid the G-20 Talkfest of the Finance Ministers, one issue that is hotly debated is whether to spend even more on stimulus packages: Anglo-Saxons want to, the Europeans don't, and the Asians are not saying anything (at least that we know of). We side more with the Europeans this time.
We already have outlined our views in previous work for you concerning US treasury bonds: the advice that we gave you at the time has reaped nearly 28% since for our subscribers. And last November we linked the US treasury bond yield curve to China's actions. Today, we re-link these chunks, casting further light on two investment ideas that will keep making you money.
Topics Covered
- America's yields
- China's yells
- How to make money off this idea
Background
1. America's yields
In more recent history, US government bond yields (GBYs) bottomed on 16th December, 2008, and have risen by about 50% since:
- two year GBYs have shot up by 50% (0.65% then; 0.98% now);
- five year GBYs have risen by 48% (1.26% then; 1.87% now), and
- 20 year GBYs have risen by 36% (2.86% then; 3.88% now).
Inflation hardly can be the reason for higher yields; after all, everyone is talking and experiencing deflation, correct? So, with inflation being a non-theme, the "store of value" argument is going to get a very different dimension. We already have suggested an argument when discussing gold....
Besides, with the dollar remaining strong, it is perplexing to see people chasing the "safe haven" of the US currency - but obviously shunning what used to be safe investing, US government bonds.
2. China's yells
This erosion of yields is perhaps one reason why Premier Wen of China has asked "...Washington to ease Beijing's worries about its huge holdings of US government debt...." (South China Morning Post, 14th March, p. A1). In the same article, we learn that about half of China's US$2 trillion in reserves are invested in US Treasury bills and bonds.
Premier Wen went on to say that "...China already had decided to diversify its foreign exchange reserve holdings."This is not quite a "yell" in the Western sense, but coming from China's PM, it constitutes a very significant statement. Beware!
This little-heeded statement is crucial: you need China only to tell the world that she is not going to buy as many US government debt, and watch US government debt yields fly!
Why?
Because prices are made at the margin. China is a big buyer of US debt. If China suddenly tells the world that she has stopped buying as much debt, markets will interpret this as China saying that she is "selling" US debt. And that will lead to a crash in US government bond prices - and to a spike in yields.
Such an event will wreak bedlam in the bond market - and that represents a huge opportunity for those investors with un-leveraged bond portfolios. This is because once that bond crash happens, they can pick up bonds cheaply and on margin. Besides, anyone short of US government bonds will reap handsome rewards.
Of course, China knows that by sending such signals about not wanting to buy more bonds, she will hurt herself. Bu what counts is less what China says than how the press (and props desks) interpret what she may be up to...
3. How to Make Money Off This Idea
- Always consult your financial adviser first.
- Buy the ETF that shorts US long-dated government bonds, TBT:US. It has risen by nearly 28% since we recommended it last December.
