[edited/extracted – from Zero Hedge ~R]
~ Brian Rogers
One thing I’ve learned from my 14 years of working on Wall Street is that no matter how much you think you know, no matter how certain you are of something or how well you know how to “play the game,” reality inevitably comes along and shows you just how ignorant you were, are and probably always will be.
It can be a very humbling business no matter who you are. And if you’re in it long enough and doing anything of any relevance whatsoever, you too will one day eat a big heaped helping of humble pie.
Just look at some of the modern investing “legends” or “masters of the universe” littering the side of the road. [consider: Fooled by Randomness ~N M Talib]
But one thing to look for, that can and often does lead to outsized returns, is when everyone in the market is “certain” of something. Regardless if you agree or disagree with the thing that everyone is “certain” of – if you can spot an argument like this, where nearly everyone has piled on to one side of the boat – you should do some homework because this is usually precisely the thing that can cause assets and even entire markets to make big moves. A good example of this is the recent collapse of the US housing market and the associated collapse of mortgage-related securities.
As a former mortgage and CDO salesman at a [2B2F] Too-Big-To-Fail (forgive me Father, for I have sinned), I had a front row seat to watch not only what was happening in the industry but also the overwhelmingly prevalent attitude that investors had about the asset class at the time.
The Bernank summed things up nicely in July, 2005 when he said, “We’ve never had a decline in house prices on a nationwide basis…”
Now I love to give our monetary fiat ponzi central planner in chief as much grief as the next critical thinking monkey, but his statement absolutely reflected the prevailing attitude of almost every major market participant at the time. Yours truly included.
Nearly everyone and their brother agreed with the Bernank. Strongly agreed. Has never happened, will not happen, will not change. …Next question.
Of course, if it does happen – things will go to hell in a handbasket. But don’t you worry your pretty little head about that, it will not happen. Everyone says so.
Authors note: for those curious, the answer is no, I did not predict the collapse of housing, despite my place at the table. Like most others around me, I had been drinking giant gulps of Kool-Aid. I have since gone on a massive Kool-Aid 12-step program. In fact, realizing how economically and politically naïve I was has been one of the critical turning points in my life. Recognizing, acknowledging and dealing with my own cognitive dissonance has been nothing short of a journey towards personal enlightenment.
If you had recognized that everyone was sitting on one side of the boat, you would have found the trade of the OO’s.
Which brings me to the US Treasury market.
Paul McCulley and Zoltan Pozsar presented a paper at the Banque of France on March 26. McCulley expresses a view in his paper that completely sums up the key assumption on which the entire global financial fiat ponzi system hinges. Namely, the casual assumption that there will never be a failed US Treasury auction, or even reason to fear rising US rates.
I’m not going to go into a big discussion about Modern Monetary Theory, the Great Depression, or Japan. Despite what information may or may not be gleaned from previous events, we are absolutely in uncharted territory from an economic and geo-political perspective.
No one really knows what’s going to happen next, and that’s exactly the point. Neither I nor any other person on the face of the planet knows exactly what’s going to happen to interest rates in the next 2 seconds, let alone 2 months or 2 years.
So much is happening and changing at such a rapid pace, thinking that anything will “never” or “always” happen strikes me as pure, unadulterated hubris. The madness of crowds.
And yet everything in modern finance hinges on the assumption that US rates will remain low, and buyers plentiful enough to dilute and mask the Fed’s own forced buying.
Essentially, the entire market is betting that the Fed will always and forever be able to manipulate Treasury rates and ensure successful Treasury auctions. TPTB (the-powers-that-be) are absolutely all-in on this concept.
It underlines the “confidence” that our current crop of bought-and-paid-for politicians can keep feeding at the government trough.
Sound a bit asymmetric? You bet it does.
Will Atlas Shrug?
– Do you think the US will always and forever be able to pay for our over-bloated military-industrial complex and our wars of choice?
– Do you think the federal housing agencies will always and forever be able to subsidize the real estate industry with money losing, non-economic mortgage loans?
– Do you think the government will always and forever be able to pay on the promises they’ve made regarding Social Security, Medicare and Medicade?
– Do you think the government will always and forever be able to extend subsidized student loans to anyone with a pulse?
– Do you think the fiat ponzi central planners at the Fed will always and forever be able to manipulate the Treasury curve to whatever levels the Oracles of Delphi decide?
Ask yourself this: how would all of these things be affected if the average interest rate paid by the US was to rise to 5%?
At today’s debt level of $15.6 trillion, the interest expense would be approximately $780 billion or about 35% of total government revenues. Welcome to the United States of Greece. Next stop, bankruptcy.
Housing will collapse as mortgage rates approach 8%. Every aspect of federal, state and local government spending will have to be slashed. Police, fire, schools, medical services, mail delivery, trash delivery, road maintenance and every other kind of social service will be cut dramatically as capital is diverted to pay interest on our debt.
And these sudden rate rises can happen brutally fast in our uber-connected global ponzi. Just ask Italy. [or Greece, or Spain, or Portugal, or… ]
I think it’s no exaggeration at all to say that keeping US rates low (ZIRP low) for the foreseeable future (ie, forever) is key to maintaining the semblance of stability in the current global fiat ponzi. Nearly every major financial player on the planet is counting on this being an a-priori piece of knowledge. Everyone is betting on this one idea – that the Fed will never lose control of interest rates and the US Treasury will never have a failed auction.
The same way nearly every major financial player on the planet was willing to bet that US Real-Estate could never fall for an extended period of time. And we all know how that trade worked out.
Of course, the big question is – when.
No one knows.
These abnormal, asymmetric situations have a tendency to go on longer than anyone suspects.
I recall hearing in 2009 that legendary hedge fund investor Julian Robertson was making a big bet that longer-term interest rates will rise more than short-term rates. I completely agreed with him. And at least in the short run, we have both been more or less wrong. Again, this business can be humbling.
But eventually, just like the guys who bet against housing in 2005, 2006 and 2007, eventually I think Mr. Robertson will be proven right. Big time right.
And TPTB, the Bernank, 2B2F, market consensus and everyone long 30-year Treasuries, will be wrong. Completely wrong.
There will never be a failed US Treasury auction. Until there is.
Actually, my take is that it is a bit of a chicken and the egg situation: which comes first, the failed auction or rising interest rates.
But one way or another, rates will rise – and so will inflation. Hugely.
The only question is the Timing.
Place your bets. 🙂