Understanding the U.S. Treasury’s TIC Data

The U.S. Government tends to spend quite a bit of money every year. The problem is the government doesn’t exactly have money in the bank that it writes checks against. Instead, the government—via the U.S. Treasury—has to borrow money by issuing debt in the form of U.S. Treasuries. This is especially true when the U.S. government is running up huge deficits in an attempt to stimulate the U.S. economy.

[VIDEO] Understanding TIC Data

Of course, issuing debt in the form of U.S. Treasuries is only half of the equation. For the equation to actually work, someone who is willing to buy the debt has to be on the other side—which makes the TIC Data crucially important.

Who Buys U.S. Treasuries?

Many different institutions and individuals buy U.S. Treasuries. Because U.S. Treasuries are backed by the full faith and credit of the U.S. Government, a broad range of investors—from the government of China to your Great Aunt Marge—choose to give their money to the U.S. Government.

However, the U.S. Treasury has been relying more and more on foreign governments—like the Chinese and Japanese governments—and less and less on individuals and institutions in the U.S. to buy the Treasuries it issues.

Treasury International Capital (TIC) Data

The Treasury keeps track of how much U.S. debt and other U.S. securities foreign investors are buying and releases that information in its Treasury International Capital (TIC) Data report each month. [Click here to see the current release.]

The TIC Data—also known as the Net Foreign Purchases of Long-Term Securities—tell us the value of the U.S. debt and securities foreign investors are buying compared to the value of the foreign debt and securities U.S. investors are buying.

For instance, if foreign investors purchase $75 billion of U.S. debt and securities and U.S. investors purchase $25 billion of foreign debt and securities, the net amount of foreign purchases would be $50 billion ($75 billion – $25 billion = $50 billion).

What Do We Learn from the TIC Data?

We learn one outrageously important thing from the TIC Data each month: how willing foreign investors are to purchase U.S. debt.

Remember, the U.S. is a debtor nation. The U.S. Government needs to be able to borrow money to function. If foreign investors stop buying U.S. debt, the U.S. Government is in a world of hurt because, at that point, the government will have to take actions—like raising interest rates (which would stifle the U.S. economy)—to make U.S. debt look more appealing to foreign investors.

Let’s take a look at what you should watch for when the TIC Data is released each month:

  • Rising TIC Data:

    If the TIC Data indicate the net purchases of long-term securities is increasing, you know that foreign investors are still interested in buying U.S. debt and that interest rates will most likely remain low.

  • Falling TIC Data:

    If the TIC Data indicate the net purchases of long-term securities is decreasing, you know that foreign investors are losing interest in buying U.S. debt and that interest rates will most likely need to rise in the future to entice more buyers.


Image courtesy Jack Spades.

How Does a Liquidity Trap Affect Investors?

A liquidity trap is what the European Central Bank (ECB) wants to avoid. The ECB chief recently stated that although they were cutting rates to 2% they did not want to find themselves in a liquidity trap. That has lead many investors and analysts to assume that there won’t be another cut for another two meetings. This should be prompting investors to ask what a liquidity trap is and how it could affect them.

[VIDEO] How Does a Liquidity Trap Affect Investors?: Part 1

A liquidity trap occurs when the central bank keeps lowering interest rates all the way to zero in an effort to stimulate the economy but the economy does not respond as desired. This can be caused by banks being reluctant to lend despite the cash injections from the central bank or from a lack of demand for capital from businesses. If that part of the chain is not working the capital or liquidity becomes trapped between the banks and the potential borrowers in the economy.

A reluctance to lend or a lack of borrowing demand can be destructive because it could lead to lower production levels, lower consumption levels and possible deflation. This kind of trap has tied the hands of the Federal Reserve in the US because (with rates close to zero) one of its primary monetary policy tools to stimulate the economy (lowering rates) has been nearly used up.

It is theoretically possible to push capital into the economy despite the reluctance of lenders and borrowers by injecting it in the form of gifts (oops, pardon me, I meant “stimulus”). In this situation the Government can push money directly into the hands of favored businesses and individuals through direct investment, bailouts, asset purchases, infrastructure contracts, etc.

There are potential problems with handling a liquidity freeze like this.

  1. It can unintentionally feed the beast (bubble) that contributed to the recession by encouraging the same behavior with cheaper capital.
  2. The central bank has lost one of its primary tools to manage monetary policy and (unless rates are raised) it has fewer options available to stimulate the economy in the future.
  3. Artificial intervention on a large scale creates its own risk for bubbles. By artificially modifying market fundamentals the real possibility (and risk) of new asset bubbles becomes more likely.

A liquidity trap created by artificial intervention, like the one currently at play in the U.S. (as we write this), presents a lot of risks and potentially a few opportunities. Knowing where those risks and opportunities are can be a real benefit to retail investors active in the bond market.

[VIDEO] How Does a Liquidity Trap Affect Investors?: Part 2

The current liquidity trap in the U.S. has been partially created by the Federal Reserve engaging in quantitative easing to stimulate the economy. They do this by buying U.S. debt from banks in exchange for cash. Increasing the supply of cash in the hands of the banks is supposed to make capital cheaper for banks and businesses but so far demand for borrowing and a willingness to lend has not emerged as desired.

The buying pressure by the Fed combined with a broader flight into “safety” or government debt has driven demand through the roof. As demand for bonds increases, prices rise. At this point there is a real probability that we have merely exchanged an asset bubble in real estate, commodities and equities for one in bond prices. Prices have risen so far, the yield on 90 bonds is nearly zero and the 10 year yield is hovering at all time lows near 2%. Both of these are well below expected inflation rates over the debt’s term.

A sudden rise in selling pressure can pop just about any bubble and the more inflated it is the more extreme the correction may be. The current plans for deficit spending and stimulus in the U.S. will be paid for with new debt issues from the Treasury which could shift the balance between sellers and buyers enough to cause such a correction. The selling pressure from the Treasury could easily coincide with a decline in demand for U.S. debt, especially if the intended effect of the stimulus (growth) is realized.

If sellers enter an overbought market with additional supply may fall and could fall precipitously. Falling bond prices is a risk that bond holders should be aware of and prepared for. It is also an opportunity for speculators to benefit. For example, a trader could short bonds or bond ETFs or buy call options on yields. The 10 year note yield index (TNX) is optionable and long term calls could be an interesting opportunity for adventurous traders. I will cover this specific example in more detail in the video above. In the trading example I will be talking about buying calls on an index.


Image courtesy Kennymatic.

Risks of Monetizing U.S. Government Debt

The Federal Reserve has been using some unusual tactics to offset the effects of the credit crisis of 2007-2009. Individual investors should have a basic understanding of what these Fed activities are and what kinds of risks they present to their portfolios.

Video Analysis: Monetizing Debt – Part 1

This article series will specifically address the concept of “debt monetization”, which has become a very popular set of terms to use within the financial news media to describe the partnership between a government deficit spending plan and the Fed’s open market activities..

Debt monetization is not the same thing as “printing money” but it has many of the same effects.

Debt monetization describes the process of turning U.S. Treasury debt and private corporate debt into money. Simply stated, this happens when the Fed buys Treasury and corporate debt on the open market.

When the Fed buys debt in the market its purchase increases the money supply.

During normal economic conditions the Fed will buy and sell debt to manage interest rates. When they buy debt and increase the money supply, interest rates should fall. Conversely, if the Fed sells debt, interest rates will rise.

The Fed may want to raise interest rates to keep the economy from overheating and it may want to lower rates to stimulate a sluggish economy.

During the credit crisis the Fed had had to buy an unprecedented amount of public and private debt to keep rates low. This process is sometimes referred to as quantitative easing and is ostensibly a temporary strategy that will be rolled back when the crisis eases. Eventually, the Fed would like to get the debt they hold back into the market, which theoretically would reduce the money supply by demonetizing the debt.

The Fed needs to buy this debt because the private money markets are unwilling or unable to do so in the quantities necessary at desired yield levels. Private companies have low value debt they need to get off their balance sheets and the U.S. government needs to have money to fund a budget that is in deficit. If the Fed did not buy the debt, yields would rise and it could significantly postpone economic recovery.

This presents a series of very unusual questions for investors. The Fed is essentially the largest market participant and they have clear stated objectives about where they want prices and yields to go. Should individual investors bet against the Fed? Is the Fed taking on too much risk? How do individual investors hedge this risk or take advantage of another potential bubble?

In the next article in this series I will discuss what the known risks of the Fed’s strategy are and some ideas individual investors can use if things don’t work out as planned. Ultimately, individual investors need to be flexible, educated and aware of what is going on around them. We can’t forecast the future but we can prepare to take advantage of market changes when they do happen.

In order to fully understand why debt monetization in its present scale is risky I think it is important to consider some of the specific strategies being used by the Fed. The similarities between those activities and some of the causes of the last asset bubble are interesting. To see part one of this series, click here.

Video Analysis: Monetizing Debt – Part 2

I would suggest that the Fed has essentially done three things through a variety of new and expanded programs.

1. Through the Primary Dealer Credit Facility (PDCF) and other measures the Fed is now able to loan directly to a larger pool of borrowers.

2. Through the Term Asset-Backed Securities Loan Facility (TALF) and other measures the Fed can accept new forms of collateral (like mortgage backed securities).

3. Through a number of other changes the Fed has extended the time frame on lending facilities. Some of these time-frames have been shortened but not all.

These extraordinary measures are similar to the kinds of things happening during the housing bubble. Borrowers had to provide fewer and more flexible assets for collateral, terms were extended and requirements for eligible borrowers were relaxed.

These measures were all taken by the Fed to help ease the blocked credit markets. Theoretically they can be reversed (to a certain extent) once the credit markets start operating more “normally,” however, things may not go as hoped. Through these measures and the Fed’s large Treasuries purchases a debt bubble has been created.

In the case of the housing and mortgage market, these same strategies led to a bubble that popped and resulted in significant asset deflation. In this case, if the current Treasury debt bubble bursts, yields could rise dramatically because Treasury debt prices would fall.

Rising yields and accelerating inflation can be good for commodity investors but it is tough on a variety of other assets like stocks and bonds. Prudent investors should be diversified and thinking about the effect of these risks, should they materialize, on their portfolio.

It is important to understand that no one can tell the future. The Fed’s plans may turn out great. No one knows yet what will happen for sure. There is clearly an erosion of confidence in the Fed happening but that alone doesn’t guarantee a crash. The key is being prepared for either eventuality.

Is the Fed Really Running the Printing Presses?

The phrase “printing presses” is being thrown around a lot by financial writers lately, referring to the Fed’s monetary policy activities and the risks of inflation in the U.S. This phrase is misleading and does not accurately portray the risks and opportunities of investing during a period of rising inflation or rising inflationary expectations.

[VIDEO] Is the Fed Really Running The Printing Presses

This article will help you understand the difference between running the physical printing presses versus what the Fed has actually been doing and what you can do to take advantage of emerging economic trends.

This article is not about whether these policies are good or bad as much as it is about making sure you understand what is really happening.

We suspect that many writers are using the term “printing presses” as a euphemism for the Fed’s quantitative easing program. This is a handy alliteration for writers who value sensationalism over education but it can be very confusing to many retail investors who believe the Fed is actually printing and distributing physical currency.

The money supply in the U.S. could be divided into two rough categories. There is physical currency including bills and coins that is sometimes referred to as a component of “M0.”

This category of money supply has been increasing over the last few years but not at a surprising rate. This is the kind of money that is printed and authorized by the U.S. Treasury and co-managed with the Federal Reserve system banks.

The other kind of money supply consists of everything that is not physical currency. This long list of money includes checks, loans, money market deposit accounts and time deposits among other things. The bottom line is that the kind of money that actually comes off the printing presses is not really increasing at an unusually high rate.

Financial writers and analysts are probably referring to the second kind of money supply (if they even understand the difference) when they say the Fed is “printing” too much, which has been increasing dramatically over the last year.

The Fed has been increasing the second side of the money supply dramatically over 2008-2009. They have done this in a number of ways including an unprecedented quantitative easing strategy. This is a process, in which the Fed and its reserve system banks “create” money which will hopefully offset the risks of deflation.

However, unlike actually printing money, the process of creating money through quantitative easing is reversible. Money can be destroyed by reversing the process used to create it. This is something the Fed could do with a great deal of efficiency if inflation appeared to be getting out of control.

No one really knows the long term effects of a quantitative easing campaign or of a campaign to reverse quantitative easing on the money supply. However, that does not mean we can’t prepare for investing in an inflationary environment. Short bonds, long yields, long gold and long TIPS positions are all reasonable investing strategies in an inflationary period.

The reason it is important to understand the difference between actually printing physical money versus increasing the money supply through quantitative easing is that the risks of each activity are different. Not understanding the measures the Fed may take to reverse their strategy could leave investors overconfident and unprepared.


Image courtesy bfishadow.

How Quantitative Easing Works

Quantitative easing is one of the bigger arrows in the Fed’s quiver.

Quantitative easing is a monetary policy tool in which a central bank—like the Federal Reserve—floods the market with cash in an attempt to stimulate an economy in recession and to stave off deflation. The idea is that if the central bank floods enough cash into the market, it will set off the following chain of events:

1. Banks and other financial institutions will build up larger and larger cash reserves

2. Banks will finally decide to loosen their lending standards to utilize their excess cash

3. Individuals and companies will start getting the loans they are seeking

4. The economy will begin to recover as people and companies begin to spend again.

“Helicopter Ben” (Federal Reserve Chairman Ben Bernanke) indicated in a speech in 2002 that he would be willing to dump as much cash into the economy through quantitative easing as was necessary to stimulate growth. Quantitative easing involves flooding the market with cash. The question is…how does a central bank—like the Federal Reserve—flood the market with cash?

Quantitative easing requires the central bank to take the following three steps:

1. Cut the short-term interest rate to zero percent

2. Announce how long it will leave the short-term interest rate at zero percent

3. Begin buying long-term securities—like Treasuries, corporate bonds and asset-backed securities


Part 2: The Benefits of Quantitative Easing

Why Would the Federal Reserve Resort to Quantitative Easing?

It seems that during good economic times, all we hear about is how concerned the Federal Reserve is with inflation. We can’t let the economy grow too fast….We can’t let the monetary base get too big….We can’t just print money—the Fed says.

But during bad economic times, all of that seems to change. And during really bad economic times, we even start to hear about quantitative easing. But what does quantitative easing do for the economy?

As you will see in the video, quantitative easing can help consumers, exporters and financial institutions find their way out of a recession.

Quantitative easing has the following three potential benefits:

1. Quantitative easing can lower longer-term interest rates by pushing down yields at the far end of the yield curve.

2. Quantitative easing can lower deflationary expectations by promising to keep interest rates low for an extended period of time.

3. Quantitative easing can stimulate exports by increasing the monetary base.

I’ve scratched the surface of this topic in the article above, but I go into much more detail about what quantitative easing is and how it is implemented in the Understanding The Benefits of Quantitative Easing Videos above.