Yotai Gap to Provide Fuel to the Treasury Bond Bull?

Bloomberg.com reports on one way in which the US financial system is fundamentally going Japanese:  both countries have a yotai gap.

What, you ask is a yotai gap?  Per Bloomberg:

Japan’s biggest bond investors see increasing parallels between the nation’s government debt market and Treasuries, indicating that historically low yields in the U.S. have room to fall.

Just as in Japan, deposits at U.S. banks exceed loans, reaching a record $1.45 trillion last month, Federal Reserve data show. As recently as 2008, there were more loans than deposits. The gap is also at an all-time high in Japan, where banks use the money to buy bonds, helping keep yields the lowest in the world even though the country has more debt outstanding than America and a lower credit rating . . .

Loans dropped and savings rose in Japan, too. Lending has declined 27 percent from the peak in March 1996, while bank holdings of government debt surged more than fivefold to a record 158.8 trillion yen ($1.98 trillion) in April, according to the Bank of Japan. The difference in deposits and loans, known domestically as the yotai gap, is 165 trillion yen, or more than Spain’s annual economic output.

If one has capital looking for a home, and one is already fully invested in stocks and in real estate through ownership of a personal residence or two, and should one capitulate to the idea that the Fed is on hold indefinitely, one may rationally conclude that locking in a 2.9% yield annually for ten years by buying the debt of one’s own government beats the risk of getting zero year after year.  In that calculation, it is unnecessary to think of whether that 2.9 cents of interest per dollar invested  will keep up with the pace of price increases.  If one is concerned about an inadequate interest rate (and who is not?), one can take the other end of a “barbell” approach to investing and load up with inflation hedges (got gold?).

In other words, if economic activity is decelerating in a world in which “excess” capital is created by the banking system (led by the conductor of the symphony, aka the central bank), then all this capital (which, again, has been created in greater quantity than the available goods and services that can be provided) has to bid some asset(s) up in price and can bid up Treasurys simply because they appear, for the moment, “less bad” than alternatives.  Better to lose a bit (one hopes it’s only a bit) to price inflation in a Treasury than lose a quick 20-50% to a stock market crash.

Successful investors and speculators know to concentrate on a small number of fields.  I have been concentrating lately on the ongoing ”structural” bull markets in precious metals and Treasurys.  The future may prove me wrong, and if so it will not be the first time and I hope it will not be the last time either.  But at least I understand the rationale for the tactics and strategy that I am employing in this strange financial land that we have unwilling been exiled to, which Taleb might call Extremistan, and in which we are all strangers who are still acclimating.  

The worst thing one can do is trade or invest because of headline news of the day.  What does one do with the following headlines that are appearing simultaneously on Bloomberg.com today?

Saudi Shares Rise on View Oil Prices to Rebound After Stockpiles Released;

Dubai Shares Fall to Three-Month Low on Greek Debt Concern, Oil Price Drop.

While the news is not always so blatantly contradictory, there is always some bull or bear on any conceivable topic in the financial media with which one can agree or be a contrarian to.  In contrast, if one keeps an open mind, thinking about fundamental factors such as a yotai gap may prove a more durable and important way of testing economic and financial hypotheses to help explain the trends that are in force and to help judge if they will continue, at least for the nonce, to remain in force.


















4 comments to Yotai Gap to Provide Fuel to the Treasury Bond Bull?

  • Sundar

    I agree Dr. Even on the day when S&P put US debt on the watch list, Treasury yields went down lol. There’s too much capital sitting around seeking some yield and Treasuries are going to be one of the go-to assets. But how low can these yields really go? At what point will the sheeple wake up and realize that the Emperor is actually naked? I talk to my colleagues/friends and nobody seems to notice any of these things…lol.

  • DoctoRx

    Sundar, it really is a LOL situation, you’re right about that. It’s also a WTF?! situation.

  • Floyd

    It is a F**Ked situation.

    The yati gap is a very nice explanation for what holds the Japanese gov bond market.
    I see no reason why it won’t work in the US, too, at least for a good while.

    Yet, essentially, a losing enterprise, even a coercive one, must eventually implode.
    Albeit, gov can often push the envelop further than other enterprises.

  • Keith Weiner

    Doc: great article and great point!

    Sundar: Professor Fekete has written a number of pieces on falling interest rates, arguing that one should not look at it as a linear series, but as a series of *halvings* (each of which almost doubles the burden of debt repayment).

    The global financial machine is designed with a ratchet mechanisms. It can only go in one direction, stretching its springs, stressing its bearings, and racking its frame in exponentially increasing amounts. It will keep going until it blows sky high.