The First Real Sign Of Treasury Problems?

Graham Summers posted a detailed account of why last week's 30 year US Treasury auction could be considered to have been a failed auction. The key takeaway for me was that primary dealers (they have to buy) accounted for 47% of auction while indirect bidders (foreign demand is counted in this segment) only accounted for 28% down from 40% in past years.

I am not an expert on the finer points of treasury auctions but much of the foreign demand in the last few years (the kindness of strangers) has essentially been forced in the name of self interest of those strangers. The trend in indirect bidders and what we know about China in the last few months or so plays into a bigger idea that I (along with many others obviously) have been writing about which is that the US is becoming an increasingly unattractive investment destination.

Who knows if this is the big one or not but if you start to think about total indebtedness, budget deficits and the lack of will (political, social and otherwise) to make difficult choices and sacrifices then news like this should not shock you.

A few years ago it was easy to buy shorter term treasuries. Yields were much higher and the fundamental situation was not the same. It was on the path to where we now are (deficits and debt were well known issues) but the housing market had not blown up yet.

If the fundamentals of an investment are not attractive and or the risk of a particular investment is greater than normal then it makes sense to simply avoid the investment, in this case treasuries, altogether. I don't think there is really anything disastrous in buying one or two year treasury paper as some sort of cash substitute but allocating some portion an investment portfolio to regular treasury debt does not seem ideal. The US won't default, the Fed will just print more money which at some point creates a different bad outcome than default.

We have TIP exposure, some exposure to short dated US corporates and some exposure to foreign sovereigns that do not make any news in this regard. Some clients own BWX (23% Japan) which will become a sell at some point if and when Japan starts to deteriorate. We are not there yet though. We also have small exposures to other fixed income things all arranged so that hopefully we are not overly vulnerable to any one thing.

We have very little exposure to muni bonds. This is something I've mentioned a few times but not often. For a while there muni yields were all higher than treasuries which I took as a warning of potential trouble. Since then the news has gotten much worse in terms of budget deficits, insolvent unemployment funds and the possibilities of seemingly drastic things like cutting emergency services at the local level.

I've written quite a few times about the short term foreign sovereigns we own. The influence is from Nassim Taleb although he favors 90% and we are less than 10%. Unfortunately the investment product landscape does not really allow for accessing this market, at least not yet, as many of the funds are heaviest in Japan which, again, is probably ok for now but will need to be addressed at some point.

If you are concerned about some of the things happening in the fixed income market there may be proxies out there that offer the volatility characteristics of traditional bond exposure even if not the traditional yield characteristics. I recently wrote an article for theStreet about the Collar Fund (COLLX). In writing that article I had a chance to talk to the manager of the fund and he brought up the point of his fund acting as a bond proxy in terms of volatility but not yield. To the extent the concept interests you you can do the research and decide for yourself about a given fund but as has been the case for a while the bond market is not quite right.

In a related albeit darkly humorous post Paco Ahlgren discloses that he is "short Treasuries, and long gold, oil, guns, ammunition, potable water, canned goods, pigs, chickens, and toilet paper." What, no beef jerky and TNT? And what about whiskey and Ivory soap?