The Markets Are Working Properly; Let Them Work
On the short end of the maturity spectrum, demand remained solid as investors continued to turn away from risk and seek safety. As a result, the bond-equivalent yield on three-month T-bills fell as low as 3.91%, though it ended the session off that low at 3.984%.Amid the dash for cash, the government's auction of $18 billion in two-year notes was nearly four times subscribed, the best level since 1988, according to Ian Lyngen, interest-rate strategist at RBS Greenwich Capital in Greenwich, Conn. Indirect bidders, domestic and foreign institutions, including foreign central banks, took 32.5% of the new two-year notes.
In fact, money market funds have seen record inflow as investors seek their safety. The Investment Company Institute said $43.67 billion went into money market funds the week ended Aug. 16. The previous week, it was $49.28 billion.That's more than double the flow -- $18.13 billion -- for the week ended Aug. 1, before the subprime crisis picked up steam.
Money market funds are moving to shorter duration securities, despite the market's expectation of a decrease in the federal funds rate. Not long ago, the bias was toward a rate increase because of Federal Reserve chief Ben Bernanke's public stance that inflation was a concern.
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Jim McDonald, portfolio manager of taxable money market funds at T. Rowe Price, says that's odd. Ordinarily when the Fed plans to lower rates, money market funds move to longer duration securities to lock in higher yields.
But managers are so uncertain about further fallout from the subprime crisis that they are moving a chunk of their money into securities that mature the next day.
Here's a chart of the T-Bill yield.
And here's a graph of the current yield curve.
The flight to quality and the weight it is putting on the short-term part of the government yield curve is a primary reason why some some people are calling for a rate cut from the Fed. But there are some points these people are missing.
First -- this move shouldn't be overly surprising. During times of market turmoil, investors usually put money in safe and liquid short-term government bonds. This is often called a "flight to safety" because of the inherent nearly risk-free profile of government debt. In other words, investors are doing exactly what they should be doing during a period of market turmoil.
Secondly -- this isn't a bad thing. Investors are parking cash on the sidelines waiting for an opportunity. While these investments are safe, they don't yield that much after inflation. That means investors will eventually tire of low yields and look for a better return. There is no actual time line as to when this will happen. But if people continue to flock into the short-end of the curve, yields will continue to decrease, lowering return. And the lower the return goes, the more incentive investors have to look for higher yield somewhere else.
Third -- a steeper yield curve positively effects the Federal Reserve's outlook. A flat or inverted yield curve is usually a sign of an impending recession. A steep or normally inverted yield curve is the way the yield curve is supposed to look, with longer-dated bonds yielding more than shorter bonds. This is a yield curve that does not say recession. Remember that in this analysis, the reason for the yield curve's shape isn't important; all that matters is the actual shape.
In other words, right now investors are acting very rationally. More importantly, the market is acting as it should act.
The people calling for an interest rate cut want immediate gratification; they do not want the markets to work as they should. Instead, they are use to being bailed out of market turmoil by the Fed. This is to be expected given the Fed's actions in recent market problems. Here is a chart from the above cited WSJ article of the Fed's action to market problems. Note that over the last 15+ years, Greenspan has ridden to the rescue with an interest rate cut in the Fed Funds rate.
Right now the markets are doing exactly what they should be doing. When they unlock and move from government debt to higher yielding assets is unknown. But that will eventually happen. I hope the Fed let's that happen naturally.
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This country went for years and years with low interest rates and no inflation before the 1970s, the way I remember it.
It is the bank regulators and the government that are creating the problems. Most people will buy if they can charge it, especially the younger generations.
Only about 5% are financially intelligent. It is a gift just like the ability to sing or be an artist is a gift. There may be another 5% that are 'saving' but they are sometimes 'pennywise but pound foolish".
Also, it isn't the interest rates, it is the "growth" factor that is running up prices.
The problem I see is the 'growth' is all going to the top and the average wage is not as high as it was when Bush took office, if you figure in inflation.
We aren't a third world country, but may be on our way to being a third rate country.
Hale...I think you know it's just a matter of time...in spite of moving to short term paper..tha
I'm trying to convince client's (yes..I'm a broker) to sacrifice some yield..and go to government money market funds..you give up 15 or so basis points..bu
Yesterday.
so so...I'd like a response..
Rich folks who bet that selling bad mortgages to people who couldn't pay them would be a winning strategy want the Fed to bail them out. So they claim it is going to hurt the economy unless they get their "corporate welfare". No big surprise here.
The big surprise is that the Fed isn't buying the argument, and the sky is not falling as a result. Good on 'em. About time. One more sign that the country is waking up from the greed-induced coma it has been in for too long.
Thus the cycle of ups and downs continues.
Whatever might the case about the oil market, or generalized abstract markets, Bonddad seems to have it right here. The likely effect of an interest rate cut would be to provide finance institutions with a guarantee that they won't suffer big losses as a result of the mortgage mess.
Why would a liberal or left winger rush to do that? If things get a lot worse than they are now, this might be the least bad option, but right now things aren't that bad.
Corn-based ethanol production increases demand for corn without the supply increasing as much...pri
Why is it that the magic words for everybody in finance and upper level business seems to be "market"? OIL is traded on a market, but its price is still inflated at least half again above what it should be. Corn is traded on a market, and its price is also seriously inflated. Any time there's any talk about anything bad in the economy, whether it eb free trade, or trading, or the damn housing bubble, economic types will all start screaming "THE MARKET'S FINE PEOPLE!!! NOTHING TO SEE HERE!"
And Mr. LeftRight how do you know how much these markets are inflated by?? I do pretty much agree that oil is now unfortuantely an easily manipulated market, but grains are massive and gobal with players of a much more equal scale on both sides. So what makes you so certain that just because prices are so high that they are not where they should/need to be?
The market is not based on reason or actual value, and it's "rules" are easily overturned by panic, rumor or con-games. It's a very leaky vessel to trust in, but it's the best our current system seems to be able to do. And so our retirements and kids college funds etc are never dependable, unless we've got much more invested than we could possibly ever use.
I'm waiting for someone to figure out an economic system that actually works all the time - so far, that has eluded us. This money stuff isn't a very good way to exchange value.
I may regret not replying to the main points in Mr. Stewart's post. I think it's generally impolite to pull a discussion off topic. Still...
"OIL is traded on a market, but its price is still inflated at least half again above what it should be. Corn is traded on a market, and its price is also seriously inflated."
I have to disagree with you on both counts. Both petroleum and corn are heavily subsidized by taxpayers and governments. If the true costs of these products were required to be paid by the consumer at the point of sale, they would cost much MORE than they do now.
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