Today’s Bond Market Decline is Not the End of the Great Recession
originally published December 7, 2010 by Don Martin.
The Long Term Treasury ETF TLT declined 2.14% today because last night a “tax cut” (in reality an extension of a 9 year old tax law, and thus not a cut) will be approved by Congress and the President. There will also be an actual, but temporary, cut in payroll tax rates. One might be tempted to think this will magically cause employment to recover thus igniting inflation and killing the bond market. However, the big picture is that increasingly both China and the Euro zone are looking like a bubble that will (or already has) burst. Also, according to Barron’s two-thirds of the U.S. homes that need to go through the foreclosure process have not yet completed that. With the huge amount of excess debt that Americans need to pay off plus problems in Europe and future problems in China where will growth (which would hurt bond prices) come from?
According to a Dec. 6, 2010 article by Ambrose Evans-Pritchard in www.telegraph.co.uk China has had a 40% increase in its money supply last year which would require monetary tightening. This may cause a hard landing with big falls in commodity prices, EM bonds, EM stock, and Asian growth rates. Homes in China are selling for 20 times income; in Tokyo it is 8x, in U.S. 4.7 x.
The Euro area does not have enough money to bail out its weaker members. Do you think Germany with 85 million people is rich enough to bail out all of the non-British EU part of Europe with 440 million people?
So where is the growth and demand that will make the economy recover (which would thus hurt bond prices)? I think today’s drop in bond prices was a one day panic which may have been exacerbated by a sell-off in Muni bonds. Because new issues of Buy America Bonds won’t be allowed next month municipalities are now in a rush to issue (sell) more bonds this month; this selling makes prices go down because there is too much supply, which in turn can affect Treasury prices.