WHICH WAY DO WE GO?

The Treasury Department released October data showing a sizable decline in net foreign purchases of U.S assets at $48.1 billion, down from $67.5 billion in September, in effect slamming the dollar. “People were expecting it to be worse than last month, but nobody was expecting it to be below 50,'' said Simon Derrick, head of currency strategy in London at Bank of New York. Surely the mere thought of dwindling foreign demand for U.S assets, let alone actual data, would place pressure on bonds. Not so. The CBOE 10-yr Treasury Yield Index shed 0.56, breaking short-term support and prompting a possible revisit of the 4.00% level.

Reasons for a bond slide mount, yet nothing has materialized. Let’s line them up: Rising inflationary pressures (as measured by the PPI/CPI and discounted by gold bugs), a depreciating dollar, a tightening monetary authority, waning foreign demand for U.S Treasuries, and ominous technical patterns ($TNX, TLT), all favor bond weakness. For traders (at least for those that incorporate the macro equation in their trading methodology), money is not made by correctly mapping out the macro landscape, but rather by correctly timing your macro bets. Timing a potential bond sell-off has proved to be a daunting task. Variant perception has prevailed for most of the year, as those that ran counter to the extreme bearish sentiment earlier this year were rewarded by massive short covering that pushed yields nearly 90 bps lower from their May highs.

Are we close to a major bond reversal (sell-off)? I’m not willing to place a bet either way. Although, for those brave souls out there, tomorrow’s C/A data and the CPI number out Friday could represent an inflection point that should go a long ways toward providing conviction and handsome future returns for one side of the trade.

--UK

Comments

[LB]

In looking at the press release, the figures $48.1 and $67.5 billion for October and September respectively are not just purchases of US assets by foreigners. They include purchases by US residents of foreign assets as well. In comparing the two months, foreign purchases declined slightly from $64.7 to $63.3. Where the major difference comes is from purchases of foreign securities. In September, US residents were selling foreign securities (a net inflow of $2.7 billion). October saw a surge in purchases of foreign securities to a net outflow of $15.2 billion. At the moment, it isn't foreigners who are slamming the dollar. It is US residents!

[UK]

LB,

Thanks for pointing that out - I think you're right. The way I looked at it was the difference between the $48.1 bil and the $67.5 bil represented a reduction in net foreign purchases of both domestic (securities issued) and foreign L-T securities (securities owned) held by U.S investors, and not from a rise in U.S purchases of foreign assets.