Talking about bubbles

US 10Y treasury compared to BBB rated debt, with spread

With The Fed buying $85B a month of bondsindefinitely, its no wonder yields have been pushing relentlessly lower day by day. In fact even though The Fed is actively purchasing Treasuries and Mortgage Backed Securities, their injections of liquidity are impacting all sectors of the fixed income universe.

I’m very active in high yield (*cough*, junk bonds) and the chart above shows three interesting series. First, the black line shows the BofA Merrill Lynch US High Yield BBB tracker (BAMLH0A1HYBBEY, effectively the sector wide yield on junk). Yields on this sector have clearly collapsed from over 8% in 1996 (and ignoring the Credit Crunch spike to 16.41% observed on December 5th, 2008) to 4.5% on January 28th. The blue line tracks the yield on the US 10 Year Treasury (DGS10, expressed in what’s know as a Constant Maturity Rate series). Once again we see a sharp fall in US Treasury yields, from 6.43% in 1996 to 2.0% on January 28th. Recalling that yields and prices move inversely, we see that prices clearly have increased across the term.

The final series in the chart above, tracked as the red line represents the “spread” between the two series, or the additional reward that investors take on for the increased risk of purchasing high yield debt (*cough*, junk). The spread has narrowed across the term, indicating investors aren’t pricing risk appropriately. The chart below shows how yields on junk bonds have been driven lower post recession, as The Fed and other Central Banks continue their intervention meddling. The only real question here is when will it blow up?. Of course, as I’ve speculated before, Japan is showing us the way, so I guess after they blow up then The West will get it’s due.

Before the Credit Crunch the spread – increased reward – averaged 7.96%, and its traded down to 2.52% on January 28th. Goldman is looking for a bond market blowup, while some speculate that metals will provide safe refuge.

Myself, I’m not so sure and have been dumping capital markets based assets to purchase property. In any case, this will not end well.

BBB rated debt, post 2009 recession

BBB rated debt, post 2009 recession

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