Interest Rate Roundup

Monday, December 15, 2008

Dollar annihilated ... again. Plus, are Japanese investor flows going to dry up?

The dollar is getting annihilated again this morning, with the Dollar Index down about 122 bps as I write. At 82.43, the DXY is trading at its lowest level since late October. The key two-part question I have been asking is quite simple: Will the dollar decline continue and if so, what impact will it have on demand for dollar assets, including U.S. Treasuries?

The latest TIC data showed plenty of foreign demand (as of October) for U.S. Treasuries. But that was mainly because those same foreign investors were busy dumping just about everything else (agency bonds, stocks, corporate debt, and so on).

Meanwhile, the Wall Street Journal has a great story about the longer-term inflow of funds to the U.S. from Japan. Sick of near-zero yields in Japan, investors over the years have flocked to overseas bond markets in search of higher returns. But now, the Fed has cut rates to the bone, and some U.S. Treasuries are yielding 0%. So the question becomes: Why invest here? More below from the WSJ ...

"Higher rates in the U.S. have lured many Japanese investors, including its giant insurance companies and pension funds, into dollar-based assets such as U.S. Treasurys. Japan held $573 billion of U.S. Treasury securities in September, according to Treasury Department data, making it the world's second largest investor after China.

"Rate cuts in the U.S. could eventually push down returns on these assets and eliminate their appeal for Japanese investors.

"The yield differential has already been reversed for government securities with short maturities. On Tuesday, the U.S. Treasury Department sold four-week bills in an auction at a yield of zero for the first time as investors poured into what they saw as the ultimate safe haven.

"It would be hard to imagine a more propitious environment for a buyers' strike of U.S. paper," said Peter Tasker, an analyst for Dresdner Kleinwort in Tokyo.

"While few experts expect an immediate exodus of Japanese investors from Treasurys, there are some signs Japanese investors are beginning to reduce investments abroad. Between September and November, Japanese mutual funds sold medium-term and long-term foreign bonds worth 899 billion yen ($9.87 billion) on a net basis, compared with a net purchase of 593 billion yen during the same period a year earlier."


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