“Rent Control” Problems Emerging In Bond Auctions

Hat Tip: Gregory Mannarino  @GregMannarino

The bid-to-cover ratio, indicative of the number of investors who put in offers to buy the debt and a gauge of demand, stood at 2.19. That is down from the 2.4 recorded in the last sale last month and marks the second-lowest level since March 2009.  – FT

We were not surprised at yesterday’s weak 10-year auction though today’s $19 billion of 30-years went off fairly decent.

In our Tuesday post, we raised the question,

…we are watching the Treasury auctions closely and suspect they could get sloppy and ugly down at these yields.

With repressed yields a sort of “rent control” problem arises, where there is a shortage of funds at the given fake or below market yield.   Just as the case with a shortage of housing when rents are held below their market rates.

This is just a thought and first cut and needs to be further fleshed out.  — GMM, August 6th

Any market observer understands that the marginal price setter doesn’t necessarily reflect the level where large quantities can be liquidated or sold.

Go no further than the LTCM crisis where that hedge fund full of genius Nobel laureates set the level of credit spreads across many markets with help from a boatload of leverage.  When it tried to liquidate some of those positions, there were no buyers.

Can the Treasury issue several trillion of new debt over the next few years at these “fake yields,” which have been manipulated lower by central banks and set on the margin by the duration jockeys looking for short-term capital gains with no interest in holding the bonds for the carry?    We seriously doubt it, and you the conflict is indicative in weak bond auctions.

Upshot

We expect Treasury auctions to get sloppier with the risk of some even failing.   That will send a real wake-up call to markets and the policymakers.   Zero price discovery in markets has ugly consequences, some of which, take some a long time to be realized.

Yes, Virginia,  there is a debt overhang.  And yes, Vice President Cheney, deficits will matter.