Treasury Market Freezing Up is The Next Black Swan Event
The united states treasury market is supposed to be the most liquid in the world the treasury is supposed to be the most stable financial instrument available around the globe yet the next black swan event could very easily be the u.s treasury going no bid liquidity in the bond market could dry up so severely that there are no more buyers at any price for united
States treasuries ready let’s dive in the other day i made a video about how bond market liquidity is drying up extremely quickly and i will link that video at the end of this one just in case you haven’t seen that here we’re going to discuss why that is such a big deal and with the ramifications could be if it gets as extreme as it looks like it might get
Now just so you’re aware i never ever recommend investing in bonds especially u.s treasury bonds because they represent return free risk you’re guaranteed right now at these rates to lose at least a little bit to inflation they’re paying you three percent you’re losing six seventy nine ten percent to inflation and that’s at best and at worst they could default
And so they represent return free risk which is why i designed my portfolio allocation course to teach you how to not be vulnerable to return free risk but what types of assets to invest in instead discount link is in the description description below but right now liquidity in the united states treasury market is the biggest black swan risk since the housing
Bubble that’s at least according to a bank of america report just released this is because the u.s treasury market is the most important financial market in the world it’s a benchmark for pricing all other assets now we know that illiquidity is growing or liquidity is drying up and part of the reason is because the aggregate amount of capital allocated to market
Making has not kept pace with the growth of treasury debt now that sounds very complicated it’s not basically what this means is that demand for buying and selling treasuries has not kept pace with the amount of debt the insatiable amount of debt that the united states government has basically the united states government wants to keep on borrowing to infinity and
There is not enough money out there to continue lending to the government to infinity pair this with something like the stock market like the s p 500 fund spy there’s a lot of demand to buy and a lot of supply from people who want to sell and so it just trades all day billions of dollars a second trading back and forth between people buying and selling treasuries
Typically operate just like this there’s a lot of money on both sides buying back and forth from each other now in extremely liquid markets like this you don’t really need a market maker the market maker is the person that stands in the middle of the buyers and the sellers and so they take a little bit of a cut and they’re there to make sure that there’s always
Somebody on the other side of the trade they provide liquidity there now you don’t really need them in super liquid markets you need them in more illiquid markets but for something like this you’re still gonna have market makers standing in between i’m gonna buy something from you at 99 cents sell it to you at a dollar i’m gonna make my penny i’m gonna match up
The trades there are other financial instruments that are far less liquid things like options on stocks and there’s just not a lot of volume because for every one stock you’re going to have hundreds of different options contracts that all trade at different strikes and different expiration dates and so i might want to buy an option but there is not somebody else
Out there that wants to sell it to me and that’s where the market makers come in they provide that liquidity so they will take the other side of that trade and they will sell it to me now market makers do not keep their own books because they’re not in the business of maintaining a book and betting on the market moving one way or another so they’ll hedge those bets
Doing something called delta hedging so if they sell me a call they’re also going to buy some stock to offset the move so that they’re net neutral their delta is neutral it’s a little bit complicated but you just need to know that market makers try and match up trades when they can buyers and sellers if there’s not somebody on the other side of the trade they’re
Going to buy or sell something else so that it offsets their own profits and losses at a net neutral amount so that they don’t have to worry about taking loss whether what they sold to you moves up or down now without enough people acting as market makers in securities you can have things go no bid you can have liquidity completely dry up and no trading action
Take place if something like this were to happen with treasuries or they failed to trade for a period of time all chaos would break loose credit channels like corporate household government borrowing would cease it could lead to government default the spillover effects to the dollar equity markets emerging markets consumer business confidence would be absolutely
Unprecedented imagine a government auction taking place where they’re trying to borrow some additional money sell some debt and nobody’s there to buy it there’s just not enough money now this hasn’t been an issue over the last couple of years because the federal reserve was a buyer so they are printing money up to buy this government debt so they were acting kind
Of like a market maker here no matter how much debt the government wants to take on the federal reserve would print enough money to lend that to the united state’s government two trillion dollars no problem we’ll just hit the print button but the federal reserve is removing itself as a buyer and in fact they are selling assets off of its balance sheet now bank of
America here is advocating for what sounds to me like a very terrifying solution they’re saying that we should not be relying on the fed to solve the problem of treasury liquidity which is true but that’s the situation we’re in because 14 years ago that’s what they started they started buying government debt when nobody else wanted to bar lend that money to the
Government and now trillions of dollars later that problem is much worse you can’t just stop that immediately so bank of america is advocating for the creation of a dealer of last resort separate from the fed who would make markets for cash securities futures swaps equities bonds forex commodities and it would be a government sponsored enterprise now market makers
Like i described earlier are there to provide liquidity and make sure that there is liquidity when somebody wants to buy they can take the other side of that trade but they’re not in the business of profiting from those moves that they’re profiting off of that individual trade itself by taking a small cut and they’re hedging by delta hedging if they have to on
The other side with an offsetting asset they’re limited to the amount of capital they have they are limited by being a business being a private enterprise imagine a government coming in and performing this function across all sorts of assets including treasuries imagine the influence they could have over the prices of these assets across all of these industries
They don’t have to worry about hedging because they don’t have to worry about profits or losses establishing a government-sponsored market maker across asset classes and across financial securities like this would be a huge step towards totalitarian in control of the flow of resources in an economy we’ve seen examples of market makers contributing to things
Like gamma squeezes when there’s low liquidity money piles into either calls or puts on a security that money has to flow through gets bought up into the stock or gets shorted in the stock and makes a huge gamma squeeze and the asset price flies one way or the other we saw that happen quite a few times over the last couple of years imagine what could happen if a
Government-sponsored entity was doing this with no regards to their own profitability we would cease to have free markets bad bad idea here one more bonus before you go when we talk about the dangers of liquidity drying up i want to show you this chart that cross-border capital posted on their twitter feed and it goes back to 2000 showing the correlation between
Global liquidity and all wealth including gold and how closing you can see that they’re correlated enough to be considered almost the same thing here so before we get into the projection why are they so tightly correlated here number one liquidity oftentimes comes from just the money supply growing and so as liquidity increases that’s new money getting injected
Into the system that means prices are going up that’s going to mean that global wealth is going to be going up right makes sense and then when liquidity is being withdrawn and the amount of money supply goes down and things are contracting that means prices are going to fall which means the total measured amount of wealth is going to fall so really they are kind of
The same thing here but what’s scary is when we look at the projection here based on what central banks and governments are doing all around the world right now we are seeing a projection for global liquidity falling off of a cliff here getting into negative territory it’s normally not in negative territory but that is the projection here which means a big decline
In global wealth more pain ahead as always i really appreciate you guys thank you so much for watching have a great day
Transcribed from video
Treasury Market Freezing Up is The Next Black Swan Event By Heresy Financial
