Tuesday, February 17, 2009

Is the Treasury bubble about to burst?

I don't usually express opinions about what markets are going to do, since I try to maintain the impression that I'm of normal intelligence. However, there are current phenomena which suggest that the Treasury bubble might be about to burst, and that the threat of the impending pop - or perhaps just the high current price of Treasury securities - is already benefiting other income securities perceived as (relatively) safe.

What first drew my attention was the increase in market price of some muni-bond CEFs, such as DTF. Their discount is also shrinking, which suggests that the price rise is caused at least partly by improving investor sentiment, i.e., by increasing investor preference for this form of income security. So far, so good.

I then noticed that the price of a fair-to-middlin' safe (A-, 2 years to maturity, defensive industry) corporate bond I hold has been increasing, as have the prices of the preferred shares of some CEFs, e.g., RVT-B, GUT-A, GAB-D. So has the price of TVC. Perhaps the most interesting of all is the behavior of CHK-E, which has been shooting up while the underlying CHK drops.

What all of these securities seem to have in common is that they would be perceived as fairly safe income securities. Since Treasuries themselves have been holding pretty steady for the last few months, the easiest explanation for all of this is that the latter have simply priced themselves out of the market, and their potential buyers are switching to other income securities which are perceived as much cheaper, if significantly less safe.

Will this trend continue for a while? I don't see why not, since Treasury prices remain absurdly high, while the US Treasury is becoming less and less 'well capitalized'.
Does that mean the Treasury bubble is about to pop? How am I supposed to know?
So what is the conclusion? That it might be a good idea to put some of the money we normally have in Treasury securities into these other fair-to-middlin'-credit-risk-safe income securities instead.


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