The Twist in essence reduces to a bank subsidy. How?
1) Banks are taken out of levered long duration Treasury paper at cycle lows
2) Banks increase their net holdings in the short end on a levered, positive carry basis (by repo-ing purchases of short paper with the Fed)
Is the Fed’s solvency at any lesser or greater risk? NO.
1) Despite the duration extension of the Fed’s balance sheet, there is no incremental risk
2) The Fed must now, however, be THE BID for the long end
3) Real risk to bondholders, regardless of duration, is dollar devaluation (real risk), not rising interest rates (nominal risk)
So, in the near term, banks win, Fed breaks even, dollar and unlevered bondholders risk of devaluation is escalated.
Where from here?
1) Incremental QE is no more or no less needed as a result of The Twist
2) Incremental QE is ABSOLUTELY still necessary to shrink the unreserved debt to base money stock ratio
3) Future QE may very likely require the Fed to bid out through the long end to defend yields across its holdings maturity spectrum
In sum, this is a move to help recapitalize banks under the guise of supporting the housing market and any wealth effect that might flow from that outcome. This is all about the banks income statements. Future and imminent QE will be about their balance sheets (dollar devaluation which then boosts nominal asset/collateral pricing).
Lee Quaintance & Paul Brodsky
QB Asset Management Company, LLC
*Disclaimer: charts and data are presented as I receive/see them. Sources are usually not checked for validation and my own calculations are of 'back of the envelope'-type. I am aware that some math that I do myself might be wrong and/or misleading to some extent. In financial markets the rate of change of economic data is often more important than the actual level and the perception of 'what is priced in' is more important than 'what is actually going to happen'. This is actually the way people pick entry and exit points. So... yes, sometimes you might say 'This guy is an idiot, this is way wrong!' with a high conviction, being right. Not to worry. Markets are made of expectations and the clash of conviction between its participants. Portfolio managers know that being an idiot is sometimes profitable and being smart is often a bad choice. It is all reality, sometimes good, sometimes bad. By the way: corrections to my analysis and intelligent debate is welcome. theintriguedtrader AT gmail do com