I have now segregated US treasury bond auction updates into their own separate post. This is the 8th of a monthly series of posts updating the bond auction rates and bid to cover ratios. I have previously covered these within the weekly updates. I consider this to be the most important part of what I am covering on the substack and it is where we will see the first signs of distress within the market that the federal reserve cares about the most.
You can view the previous Months’ posts below
(Prior to February Treasury auctions were tracked in the weekly forecasts)
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Since this is a repetitive series, the text that is repeated each month is in quote format.
Table of Contents
State of the Narrative
QT Tracker
Primary Auction Results Oct
Bid to Cover Ratios
Interest Rates
Secondary market Treasury rates
Market Impacts & Conclusion
1. State of the Narrative
As usual we will start out with a State of the Narrative, this one will be shorter than the initial segment in February as we simply have to cover the changes over the last month.
Quantitative Tightening has begun, As noted in July, QT became evident on the Fed’s balance sheet starting on June 22nd, which ironically is exactly when June’s treasury auction post came out. Looking at their balance sheet tracker we can now see the clear trend of the total assets held continuing to decrease.
So far the Fed is still managing to decrease the amount of assets on their balance sheet (measured in dollars), and during this time period many other large entities are divesting their US dollar reserves as well. We’ve discussed Japan doing it, and another entity (likely the UK) doing it, and many of the BRICS entities like China have also been dumping their US treasury holdings and FX reserves. In the meantime, as rates rise, the treasury market pulls liquidity out of other markets. If you’re in a business that returns 4% net profit, there is no point in investing in it rather than just buying treasury bonds. So low margin businesses, and assets, and investments begin to lose liquidity and prices fall in turn. The easiest way to stop rates from rising would be for the US government to simply decrease spending so as to slow the volume of treasuries being emitted into the market. The US legislature is wholly incapable of doing the bare minimum of their job description, so it is a foregone conclusion that they will continue to hemorrhage money and lean on the treasury, who in turn leans on the Federal Reserve. I’m hoping you got a picture of how inept they are from the post exploring US government spending bills on Ukraine. We’ve had two government spending bills this year so far to increase the debt ceiling and avoid a government shutdown, a third spending bill will have to be passed on or before 12/16/2022 to avoid a 3rd potential government shutdown and they are already talking about another potential $50b for Ukraine and $5b for Taiwan (as if one proxy war wasn’t enough).
You should not harbor any illusions about the US government slowing down their rate of spending any time soon. Both Democrats and Republicans are in broad agreement on this fact. The last spending bill passed the senate 72-25, both parties agreed on spending money that neither of them had. A change in which party controls the senate and congress will not create a meaningful difference unless enough of the incumbent GOP members can be replaced with enough real people to block house and senate voting majorities, but not enough primaries were overturned in the GOP to do this, so we still have to watch the Uniparty warhawks in red and blue continue to pass bloated spending bills with little concern for inflation and the underlying treasury markets.
Since we already hold this foregone conclusion in our heads, it is then clear what will happen. Treasury rates will continue to rise, and at some point the Treasury will lean on the Federal Reserve to pivot and support the bond markets. This is inevitable, but please remember one of the main axioms from the backdrop post.
Being right, when everyone else is wrong, looks the exact same as being wrong.
If you try to trade the truth on the short term, you will get burned, you want to be trading what it is the market is going to do. You want to know what they will hear, how they will interpret it, and how they will trade. That is far more important than knowing what is true and making fundamentally perfect trades.
Just because something is inevitable, does not mean it is imminent.
The fundamentals I am explaining here have been true for at least 60 years, and the market churns on all the same. We are absolutely heading towards a fiscal cliff, but that does not mean that you should be mortgaging your house for a parachute. Do not make large panicked moves because of the fundamental horror that is inherent within the financial foundation our entire lives are built on. The last generation of traders that got to trade an event similar to this decade (the 70s) have all retired and the market kept marching on. Keep that in mind as perspective.
Just because something is inevitable, does not mean it is imminent. How many traders have you seen trying to call the bottom this year based on the markets without actually just waiting for the Fed to pivot? This is the easiest trade in the world. Maintain a reasonable DCA, and save a lump sum of cash (or stablecoins) to invest after the Fed pivots. People forget this cycle is driven by the Fed, and no amount of technicals can overcome that. Personally, I think that people are impatient. We all have an emotional lack in some form or another and it can drive our behavior in negative directions if we are unaware of it.
Testosterone is the hormone that drives risk-taking behavior, many men are often surprised to find out that women make better trades on a day to day basis, this is due to differences in testosterone levels. The conclusion that the Fed is driving markets is probably understood by 60% or more of retail traders, and yet tell me why so many of them have tried to call bottoms and pile in on positions all year despite knowing this? It’s likely due to testosterone driving unconscious behavior. If you’re not aware of how it will push you, you can absolutely be impulsively pushed into not only the wrong trade, but a trade that you know is bad the moment you enter it.
Combine emotional unawareness and the impacts of testosterone and you have people constantly trying to catch the absolute nano-bottom by diving in too early.
Let’s take a step back to March 2020 when the last bottom was put in. I called the bottom on IG on 3/18/2020.
I correctly noted that this intervention would successfully put the bottom into the markets and stated an absolute bottom would be put in at the close of that week, or the open of the next week for just about every single asset. I was not alone in this, as I’m sure there were millions of others around the world making a very similar call, that’s not why I’m bringing this up.
Take a look at ETH on March 18th. It was $116.01. Was this the absolute low? No, the absolute low occurred about 5 days before that. Was it a good buy? Yes. Did you need to make a perfect buy to have a good entry after that secular market bottom? No. You could have been weeks and even months late. My average entry on ETH is $271.32. I was several months late to my own advice and I’m fine. That is the point. There is no need to rush and hope that you can catch that absolute low of $89.31. Each fiat money cycle lasts for quite a while, but more importantly pushes assets to astronomical valuations. Entering at the bottom is meaningless. What matters is that you do make a major entry within 1-2 months of a major bottom. The only reason that we DCA is just in case the bottom is exceedingly volatile, which has never happened before in any meaningful sense (but still a possibility). The DCA protects you from feeling as if you got left behind by the move, and also allows you to have some healthy volume that you can average your entry down further.
Yes, a Fed pivot is inevitable, but Powell is not market sensitive as we have established already, and the Treasury will be unlikely to be facing any real pressure until spring of 2023 when tax receipts fall significantly short of expectations. Meanwhile our allies in Europe, England, Japan, and maybe even Switzerland may find their dollar fx reserves running low, but not so low that they would need liquidity injections from us until next year. Hell, the Japanese probably intervened in the Yen again last night (thursday night), but even they won’t run out of dollar reserves before Spring at this rate.
Hold your horses, exercise patience, and remember that we are watching the Fed for interventions as our macro outlook remains the same. When it happens it will be in the news, and it will be here on this substack. You won’t have to guess.
And as is customary for this section, we look at the 2 year treasury.
Last month was a blood bath for treasuries, this month wasn’t so bad as rates only rose ~0.2% (which is still bad). But, let’s jump into the meat of the data now.
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