It Is All About the Preservation of Capital

The rush to gold and US Treasuries has been going on for since September. If you don't believe me check the yield on your money market account or try to buy some junk silver dollars (sold only for their silver content, not their numismatic value) and find that the price is basically twice the value of the silver content. The market (smart money, big money, sophisticated investors, whatever you want to call them) has finally figured out that it is all about the "preservation of capital" and forget return. (That is why I find all the "cheer leading" on TV, CNBC comes to mind, so amusing if it weren't for the for the fact that a lot of their content is downright misinformation.)

Actually, this causes some real problems. Because the interest rate on your Treasuries is so low, it is possible to have fees that exceed the yield, basically giving a negative yield on a money market account. In simple words, you pay the money market account to keep your money for you (Hmmmm!!!). What should a person due? Consider moving their money to high-rated bond funds (where all the bonds are AAA); some companies are going to exist at the end of this, so buy those companies; Bill Gross believes that you should buy debt instruments and not stock; move your money to savings accounts, what do you do with your money that exceeds FDIC limits; etc.

Anybody out there in blog-o-land have any ideas?

Text in bold is my emphasis. From the UK Telegraph:

The investor search for a safe places to store wealth as the financial crisis shakes faith in the system has caused extraordinary moves in global markets over recent days, driving the yield on 3-month US Treasuries below zero and causing a rush for physical holdings of gold.

"It is sheer unmitigated fear: even institutions are looking for mattresses to put their money until the end of the year," said Marc Ostwald, a bond expert at Insinger de Beaufort.

The rush for the safety of US Treasury debt is playing havoc with America's $7 trillion "repo" market used to manage liquidity. Fund managers are hoovering up any safe asset they can find because they do not know what the world will look like in January when normal business picks up again. Three-month bills fell to minus 0.01pc on Tuesday, implying that funds are paying the US government for protection.

"You know the US Treasury will give you your money back, but your bank might not be there," said Paul Ashworth, US economist for Capital Economics.

The gold markets have also been in turmoil. Traders say it has become extremely hard to buy the physical metal in the form of bars or coins. The market has moved into "backwardation" for the first time, meaning that futures contracts are now priced more cheaply than actual bullion prices.

It appears that hedge funds in distress are being forced to cash in profits on gold futures to cover losses elsewhere or to meet redemptions by clients. But smaller retail investors – and perhaps some big players – are buying bullion in record volumes to store in vaults.

The latest data from the World Gold Council shows that demand for coins, bars, and exchange traded funds (ETFs) doubled in the third quarter to 382 tonnes compared to a year earlier. This matches the entire set of gold auctions by the Bank of England between 1999 and 2002.
Peter Hambro, head Peter Hambro Gold, said the data reflects a "remarkable" shift in the structure of the market. The rush to safety reflects a mix of fears about the fragility of world finance and concerns that the move towards zero interest rates could set off an inflationary surge further down the road, and possibly call into question the worth of some paper currencies.
The near paralysis in the "repo" markets may prove to be no more than pre-Christmas jitters as banks square their books.

However, there are some signs that extreme monetary stimulus by the US Federal Reserve and other banks is starting to have unintended consequences.

The Bank of Japan is it is reluctant to cut its rates to zero again because of the damage this causes to the money markets, which serve as a key lubricant of the credit system. The US is now starting to face the same dilemma.