The ever fantastic economics blog The Big Picture [1] has reprinted an interesting letter from John Mauldin, the best-selling US investment writer, in which he details the odd things going on in the markets.
Like most private investors I can’t pretend to understand all of it, but it does reinforce that these times really are as unusual as they feel.
In my view, the apparent breakdown in orderly pricing means it’s either the opportunity of a century, or the storm-before-the-storm. Mauldin writes:
There are things in today’s markets that are simply astounding. They should not exist, yet they do. Why should US bills trade at negative interest? How can oil be trading at all-time highs in terms of spreads over the next year? Bank debt and bonds are trading at discounts not to be believed. Want some free money? I show you a trade that gives you (almost) just that. Fed funds at zero? Are we starting to push on a string?
I’ll pick out a few highlights showing how strangely various markets are priced [2].
On US treasuries:
In the last few weeks we have seen 30- and 90-day US Treasury bills trade every now and then at a rate of negative interest. That means someone is willing to pay for the privilege of having their cash in US Treasuries. This simply should not be. Why would anyone want to do this? Is this a sign the system is broken? Are we that scared?
My assumption is it does reflect extreme risk aversion; I’ve written before even longer term treasuries are offering crazy low yields [3].
On corporate bonds:
The corporate bond market is assuming an Armageddon Scenario. Barclays Capital writes that one would have to assume that US GDP will contract by 15% to make sense of the current bond spreads.
On oil futures:
When oil was at $147, the spread was an average of $3.25, or about 2.5%. You can buy January 09 crude futures at a stunning 34.5% lower than January 2010. That means if you could find a place to store that oil, you could lock in a guaranteed 34% profit, less the cost of storage. Sounds like easy money. This is just something that shouldn’t be.
Buying oil futures is a specialist way to invest in oil [4], let alone buying the oil itself, but the takeaway is simple enough – another apparent case of market breakdown.
On the Federal Reserve’s battle with the credit crunch:
We are getting to ready to run a grand experiment on many theories in the world of economics. Will Ben and Hank get it precisely right? And what is precisely right? Does the avoidance of a second Great Depression mean success? Will anyone be grateful? We all have seen pictures of Paulson looking so very tired and worn. I actually feel sorry for him. Who would want that job?