Friday, October 09, 2009

Ben Bernanke... only you could be so bold

I'm going to give you series of number pairs. Don't worry about what they are, I don't want you to bring any biases into this. Just consider the pattern.

  • 2, 4
  • 4, 6.5
  • 1, 2
  • 4, 6.5
  • 6.5, 30
  • 1, 2
  • 6.5, 30
  • 2, 4
  • 4, 6.5
  • 6.5, 30
  • 4, 6.5
  • 1, 2
  • 6.5, 30
  • 2, 4
  • 4, 6.5
  • 1, 2
  • 6.5, 30
  • 4, 6.5

Is there an exact pattern? If so, I don't see it. But we do see three obvious facts. First there is a discrete set of possible number pairs. Second, each of the pairs seem to show up with fair regularity. Third, the pairs never repeat twice in a row.

So if you had to guess, which pair would you expect next? 2, 4 right? Just because its the pair that hasn't appeared for the longest.

Alright, new topic.

Fannie Mae issues "benchmark" bonds each month, or at least they plan to do so. These are large, non-callable issues of at least $3 billion. At one time, that might have included anything from 2, 3, 5, 10 or 30-year maturities, although I don't believe they've done anything longer than 5-years in a while. Regardless, we knew Fannie would be announcing a benchmark issue on October 7th for several months. Here is a release dating to March which shows 10/7 as a benchmark issue date. For what its worth, it took me 13 seconds to find proof that Fannie was planning to issue on 10/7 for months.

Now let's bring this home. The "pattern" above is the maturity ranges the Fed has been buying as part of its Agency buy-back program since June. Remember these buybacks are every Thursday. Have been for months. Everyone knows what day the buyback happens, we just don't know exactly what the maturity range will be. But if you look at the pattern above, anyone with a 3rd grade education could guess that 2-4 was a very strong candidate. And by the way, the Fed basically offers to buy back any benchmark bond within that maturity band. So it would have been unusual for the Fed not to include the newly issued Fannie 2-year benchmark.

If the Fed is going to buy agency bonds every Thursday, then it was destined for months that the Fed would be doing a buyback the day after Fannie did their benchmark issuance. In fact, as long as Fannie is going to issue benchmark bonds once a month and the Fed is going to do buybacks once a week, it was inevitable that one of the buybacks would happen right around a new issuance. This isn't a conspiracy, its simple math.

So at best, you can argue that Fannie choose to do a 2-year issue hoping that would be what the Fed was going to buy back. Or I suppose you could argue that the Fed told Fannie Mae which set of securities they were buying back. Gave them a heads up. Still you have to wonder of what great advantage such a heads up would be. Looking back at the pattern, if the Fed didn't buy 2-year agency bonds this week, certainly it would be next week. Wall Street would know that.

So let's remember the three inescapable conclusions here. As long as the Fed is going to be buying Agency debentures in already established pattern, and as long as Fannie Mae is going to be doing monthly issuance of benchmark securities, it was bound to happen that issuance and buyback would occur in very close proximity. Wall Street has been aware of both the timing of the buyback and the timing of Fannie's new issue for months.

So why do I bring this up? Because of this post at Zero Hedge. Basically saying that the Fed's decision to buy the newly issued Fannie bond was "blatant" monetization. The author claims to be "dumbfounded" that the fed would be so bold. The Imperial Senate will not sit still for this!

I don't have a problem with claims that the Fed is conducting de facto monetization through its QE efforts. I don't agree. I think Quantitative Easing is a legitimate monetary policy tool. But I readily admit that the distance between QE and monetization is no more than three meters wide. I think the Fed is still on the correct side of that line, but it is a perfectly legitimate and important public policy debate. I'm open minded to the possibility that the Fed could cross that line at some point. I welcome rational and objective discussion aimed at convincing me and others that the line has already been crossed.

To be fair, I don't read Zero Hedge, so I am loathe to generalize about the opinions held on that site. However its obvious that the author is of the opinion that the Fed has crossed the line. Fine. Let's hear the case. But instead, Zero Hedge tries to link this particular buy back with debt monetization, when I've clearly shown above that this particular buy back doesn't indicate anything either way. Zero Hedge is presenting non-evidence as evidence.

So one of two things must be going on. Either Zero Hedge is ignorant of all the above facts, or he's intentionally ignoring the facts to make his argument more sensationalist.

And that's is what is so incredibly frustrating. We can't have rational debate in America any more. No one wants to coldly and objectively discuss facts. Reasonable minds can differ. I've looked at the factual evidence, used my economic training and my bond trading experience and concluded that what the Fed is doing doesn't amount to monetization. Someone else could look at the same evidence and come to a different conclusion. Wouldn't it be nice if the blogosphere was full of people explaining their point of view using objective facts in the spirit of reasoned debate?

But that doesn't happen, because that doesn't generate hits. To generate hits you need to be sensationalist. Everything has to be a conspiracy or a pending disaster. And no one gives a gundar's ear about credibility. So why should a blogger bother checking facts? Why bother asking a bond trader about how these agency buy backs work, just to make sure your first read of the situation is correct? No. Better to just run with the piece assuming conspiracy because your readers will assume credibility. As of this writing, Zero Hedge's post on the agency buyback has generated over 2,000 hits. A quick Google search reveals at least 13 websites linking to the Zero Hedge piece. At a glance all are supportive of Zero Hedge's position. No one questions anything.

And that's a summary of just about every debate here in America. Both sides feel the need to sensationalize their argument, facts be damned. So the debate devolves into an argument about facts rather than a debate on the merits of an argument. The left says x millions of Americans don't have health insurance. The right says no! Its more like a much smaller y millions. And around and around we go throwing out massaged number after massaged number, never actually getting to discuss the real issue of whether government should be providing health care.

Let me be very clear. Even if you the Fed was trying to monetize the Federal debt, this particular agency buy back shouldn't strengthen that view. The Fed is conducting its agency buy back program the same way it always has. Fannie Mae is conducting its debt issuance the same way it always has. No matter what your view, this is a non-event. Don't write me a bunch of e-mails saying that I don't get it. I understand the monetization argument. I really do. This particular fact has nothing to do with anything.

By presenting this non-evidence as evidence, Zero Hedge is only succeeding in being inflammatory. He's riling up people who already feel a certain way. That kind of thing makes any hope of a rational debate fade. There are those that hail the internet as this sort of modern day salon. Where any voice can be heard, creating a Renaissance of intelligent thought. Sadly I think its just the opposite.


air23cal said...

Thank for the clarity. I read Zero Hedge because they have access to alot of primary data/reports but their negative tone and sensationalist journalism is often hard to read. Your posts are much better written and more importantly, grounded in supportive facts. Thanks again for the clarity on this issue.

In Debt We Trust said...

Thanks for the clarification and the link to the reuters article:

I admit that I have been sensationalist on more than one occasion. I follow Zerohedge's twitter feed b/c they post a lot of daily updates on the equity markets such as the SPY's VWAP.

But some of the commentary on their posts is too sensationalist even for me. Comments such as the Chinese govt collapsing in 5 years, time to stock up on gold and ammo, etc. That kind of talk.

As the prior poster said your posts are better written.

Anonymous said...

The issue here is whether there was/is collusion between the broker/dealers and the Fed given the extremely close proximity (1/2 hour) between issue and purchase. It doesn’t pass the smell test in my mind.

jbr said...

Thanks for writing. As long as you and other experts write to clarify such situations and point out the lack of debate there is hope.

ZH will fade away or they will learn if they are wrong. Sadly, there always seems to be a mob ready to bid up the next ZH.

By the way, this has nothing to do with the web. Its just that the medium has changed. Stoking controversy is nothing new:
Argumentum ad auditores or Argumentum ad captandum.

In Debt We Trust said...

There is one important point to be made about this though. Q.E. has been a gravy train for the fixed income desks. Projections for q3 financial earnings are all factoring in large gains for the trading desks. I mean, just look at GS and MS equity valuations!

But as fixed-income markets get frothier, the harder it becomes for banks to make ginormous trading profits without taking on too much risk.

Perhaps you can talk about bond trading revenue as compared to VAR. That would be a more relevant and dispassionate discussion.

Accrued Interest said...

Anon @11:06:

All I'm saying is that both the buy back and the issuance were known events months ago. Let's not act like Ben Bernanke tipped off Fannie Mae that there were doing a buy back. Didn't happen.


Great point about dealer desks. I completely agree that they are currently riding the bond market train which cannot possibly last forever. Like I've said over and over, every thing sets up poorly for banks. Recent profits have come from narrow sources. At one time we could make a "yeah but look at the valuation" argument but not now.

Maybe they figure out new revenue sources before the current narrow set fade away. I'm not shorting anything. I'm just staying far far away.

Accrued Interest said...

And thanks to every one who like my writing style. I do take pride in it. Really hate when I read over an old post and realize the writing is sloppy, or it lacks any Star Wars reference. We have standards here!

Anonymous said...

The note i wrote to myself when recording the ZH rant was: "Note this is probably just normal operation of the POMO. That is they accept all agencies. It is interesting that they manage to keep the list updated so quickly."

And today I find you explaining the purchases in detail. The level of discourse on the internet may frustrate you, but the fact that there are people like you working to get the facts out -- and being read with much more care than ZH will ever be read -- means that maybe the internet is "this sort of modern day salon".

Just like any other party some of people who show up are the ones you make a serious effort to avoid. That doesn't have to ruin the party if you don't let it.

HawkFollower said...


Awesome post. I do read ZH regularly and noticed everything you said about the sensationalist nature and limited diversity of opinions. An opinion was formed way back and now the data would be presented to support it.
Having said that ZH has a lot of useful content, you just need to be aware of the bias of the founders.

You nailed the sorry state of debate these days. Keep it going.

As for the monetization point. I agree with the general observation though you can't really dismiss the part that the Fed is making it possible for the Treasury to run historic deficits.

All they do is buy Agency debt, which is now the main source of funds for refinancing. The holders of those MBS backing the loans that were replaced are now taking that cash and buying treasuries.

Obama couldn't finance $1.3T deficit w/o the help of the Fed.

Anonymous said...

1) This is a near ZERO interest loan from one part of the federal government to another.

2) The fed should not use a broker/dealer intermediary given the size and amount of purchases. It should participate in the auction directly.

3) FNMA, GNMA, etc. should report all debt related payments to (interst/principle) other parts of the fed government on a monthly basis.

4) (Main question) Why is the fed not buying the 10year treasury to drastically lower mortgate interest rates?
answer 1) It needs to widen as much as practical the spread a bank can make between a CD it sells and a mortgate it originates

answer 2) It needs to feed operating income (commissions, mark-up) to financial communitity to keep up the size of and prevent the financial infrastructure (number of brokers, offices, trading desks, etc) from drastically shrinking in size. In other words, keep up what has helped us to have a very liquid financial system.

answer 3) Feed the financial press and financial workers with PR pieces that the 'Fed is working for you and your industry'

Those are speculation at best and not an intentional flame.

For future discussion, what will be the effect of the fed buying 10 year to 20 year treasries instead of 0 to 5 year ones?

Anonymous said...

Thanks. You have my full support. I used to be a ZH reader, and lately abandoned it because it provokes negative biases. In a world full of "information", the last thing we need is bias.

Anonymous said...

Steak said...

1) QE is a very very new development, so while Mr. Jansen has great experience in bond markets, no one can say what "normal" QE looks like

2) Focus on the degree of any conspiracy alleged by ZH. No one would claim that a meeting in a smoke filled room led to this particular purchase.

3) Even if every aspect of this bond purchase were "normal" the broader point that gets lost in this sniping is that QE sets up situations like this that as Jansen concedes puts us within a few meters of monetization. Does anyone have the stones to stand in front of a security guard all day pretending to stuff things in their jacket? Then why do we want to continue these actions that look like monetization to our creditors?

Elevate the discourse people!

Accrued Interest said...

Good shot Janson! (I'm not Jansen... you are thinking of Across the Curve).

Anyway, I think there is significant risk that we appear to be monetizing, even if we aren't. So that's a very good point.

By the way I got several e-mails asking for more discussion on the distinction between QE and monetization. I will oblige either over the weekend or Monday.

pwm76 said...

Well done. Your clients are lucky to have you.

What is a gundar?

Anonymous said...

Well, 1 thing is for sure. You can't dismiss the effects of easy money on the stock market.

Nasdaq issues are trading back at 2007 highs again - GOOG, AMZN, BIDU, PCLN, etc.

BIDU especially notorious. +60 pts in 1 week or a new 52 week high every day.

EconomicDisconnect said...

I too enjoy the writing here and I of course love the Star Wars references. The 30 minute repurchase seemed like a big deal, but after a little digging it is clear that is was just a random event. Still, I agree with a comment left here that the FED is allowing unheard of access for banks into when and how much stuff they are going to buy, which distorts the market and of course pumps up profits.

I left this before, but I wanted to know if you have seen or herd about "Star Wars In Concert". I have tickets for the Boston show and cannot wait:

Anonymous said...

The Fed is not monetizing. That explains the strong dollar, right?

Anonymous said...

What is the difference between Fannie Mae debt, FHA debt, other agency debt and US Treasury debt? NOTHING. You argue semantics while the Fed monetizes debt.

Whether Goldman buys it on the condition that it will be sold back next week (at a "small" premium) or whether the Fed bids the auction directly is irrelevant. They've monetized $150 billion in the past month; and they'll keep printing until someone tells them they can't.

Nate said...

You are correct about the current state of debate in this country. There is no gray anymore. No moderates are left. All is black or white, with us or against us.

The media has split in two. One side embraces the hyperbole and just generates noise. While the other part (what remains of "traditional" media) has become so preoccupied with trying to appear unbiased, that they give equal time to each side of a debate and fail to truly assert themselves and call-out the misinformation. In the past, a reporter could interview a nutcase and call them out on their misinformation. Now, the reporter merely stands on the sidelines while two people with opposite viewpoints yell at each other - all in the name of staying unbiased in their coverage. In doing so, we just legitimize the noise and continue arguing about problems that could be refuted in a few sentences. This is how we get people like Jenny McCarthy telling us vaccines cause autism (numerous studies have disproved this) or that it's okay to compare our President to Hitler since they both wore pants or that our government sponsored health care would actually have death panels. Seriously, this is what we debate about now...It's amazing anything gets done at all.

At least It's nice to know I'm not alone.

Salmo Trutta said...

Touche'. The blogs are full of alarmists and cranks. You fill the void.

GS751 said...

Assuming they were monetizing what would this look like, and how would they hide it? Monetization is not something you want to announce per se..

Erik Stein said...

I have forwarded your column onto a few other people who have no interest in financial matters and told them:

Read this blog!
I find it really interesting but not because it is about economics. It is NOT about economics.
Just read it and substitute any economic concept for juice,..or whatever.
Do not (I repeat - Do not worry about the math or the other stuff. This is not about economics.
It is about culture.

The best writing resonates. Thank you for calling ALL the ZH's out!

Anonymous said...

I don't understand under what authority the Federal Reserve is buying Fannie Mae and Freddie Mac mortgage-backed securities. Fannie Mae and Freddie Mac MBS is not backed by the full-faith-and-credit of the US government. So which clause of Section 14(b) allows them to buy Fannie Mae and Freddie Mac MBS?

Anonymous said...

Yes. I have to agree. I have noticed that some of the Zero Hedge contributors are apparently more paranoid and/or conspiracy-focused than others. Of course, other times the paranoia and conspiracy is warranted!

RebelEconomist said...

Hello. I followed the link from nakedcapitalism.....

I agree with you about the lack of cool objectivity of policy debate these days, but I do think ZH have a point about monetisation, which I addressed (hopefully coolly and objectively) in a post on my own blog when they raised this point about treasury auctions a couple of months ago. Since the government effectively owns the GSEs, it is reasonable to also apply the point to agency debt.

I would define monetisation (aka "monetary financing" or "printing money") as lending by the central bank to the government off-market, and therefore potentially at off-market rates. This undermines the central bank's independence by exposing it to a greater probability of negative net worth and hence the need for government recapitalisation, especially when the central bank is undertaking quantitative easing, involving a large (in relation to its capital) expansion of its balance sheet that is supposed to be reversed at some point. There is no sharp boundary to monetisation; the more central bank asset purchase operations influence the primary issuance process, the more the central bank is monetising.

Gary said...

First, I am not an economist but I do a modicum of common sense. Calling it QE vs. monitizing the debt is a distinction without a difference. Using fiat money to buy your debt so you can sell more debt at a lower interest rate is obviously a tactic of desperation that can only end in currency collapse. Fiat money has value because we believe it does. How much longer can we deceive ourselves (much less, and more importantly, our creditors) that there is any possibility that this debt will be repaid? The purchasing power of the US dollar is 8% of what it was when the FED was chartered. The FED's QE policy is exactly like my using a credit card to pay my mortgage and then using another credit card to pay the credit card bill, etc. It won't be long before I run out of stupid banks to give me more credit cards, just as we will soon run out of stupid foreigners to buy our bonds. Whether ZeroHedge is finding patterns where they don't exist is an interesting question, I cannot answer. However, the FED's current policies are almost certainly going to lead to the collapse of the currency so a little hysteria is probably warrented. It is much more reasonable to me than the constant drone of "every thing is under control" that I hear from most commentators.

AllanF said...

What's the difference between QE and monetization? it is one of scale and scope.

As relates to scale, monetization is a blank check. The amount of currency that is needed is what will be printed. In contrast, QE is announced up front and all market participants, including the Treasury, know how much is coming. They can adjust their models accordingly and purchase or not accordingly. QE has a beginning and an end.

As relates to scope QE, as we have seen, involves the Treasury selling bonds to an open marketplace. The bond buyers may feel they have the Fed backstopping them if they need to get out of their purchases, but the backstop is not guaranteed. This means the Treasury is subject to market forces, and the signals the market is sending, while arguably attenuated are still present.

Finally, I don't like QE one bit. But it's not outright monetization. Yet.

GreenAB said...

i read ZH, ATC and your fine blog on a daily basis.

and i ask you the same as JJ over at ATC: "why are you going after ZH?"

are they THE evil?
would the web be a better place without them?

anf if you don´t read them - how do you know, that EVERYTHING they write is sensasionalist, that there are no nuggets to be found?

it makes me sad to see bloggers go after one another.
i never read JJ or you calling out the guys on business tv. The Steve Liesman´s & co. still have far more influence than ZH.
you really agree with everything they say?

what i wanna say is this:

for much too long the only sources of information has been business tv and the wsj and one cannot argue that a lot of this information has been massaged.

there´s nothing better than the blogosphere that could have happended to the little guy.

true: a neutral unbiased writing would be preferrable.

but biased blogging is part of the game. it doesn´t happen at ZH only. and it goes in both directions, positive and negative spins.

after two days of reading the educated ZH reader knows that he´ll never get positive stories.

within the mountains of negativity you will a) find a lot of arguments that are justified and b) nasty nuggets of truth you never have heard about.

now ZH and the "experts" have diverging views on what the fed is doing.

but the great thing is: the little guy is finally waking up on issues like QE and what it could mean for his money.

so as long ZH doesn´t misuse it´s power for frontrunning readers and contributes to mass awareness of critical issues they have my full support.

and rather than hairsplitting with the non-pros over ah ZH as a private investor i would rather see a healthy discussion of the bond "experts" on:

-how will this monetary experiment play out?

-how do you judge the exit tools described by the FED and do you think there´s a chance they´ll get it right?

-when will the fed start hiking and can they afford to wait until unemployment rate truns?

-do you think QE represents a serious danger for the dollar?

-how should conservative private investors position theirselves say over the next 5 years to navigate their hard earned money savely through the fixed income markets.

in his rant against ZH JJ admitted that he carries a FED bias since he once worked at the instution. is there anything similar with you?

thanks a lot for your effort!
i really appreciate your writing.
keep the great work up!

Anonymous said...

Bloggers simply learned this behavior from professional journalists.

Ned Baker said...

I second the view that sensationalism is nothing new, and is not a function of this medium. In fact, the internet enables writers such as AI to exist and appeal to a dispersed niche of critical readers, unlike mass mediums. Pretty cool.

And since I really appreciate Accrued Interest's emphasis on reasonable debate, I'm adding this feed to my reader.

Anonymous said...

yeah some others have already kinda mentioned this, but part of the zerohedge position is the unwarranted profits that the dealers get, not necessarily the monetization itself. I read zerohedge like many, and while i would say it used to be very good, it now tends to just be open ended conspiracy theories, which sometimes quasi play out and they take credit for, or sometimes don't.

Anonymous said...

To the author: they are called "Zero Edge" by the way. LOL. They are so sensationalist that I stopped reading (otherwise I could expect a total world collapse in everything in a few days!!!!)