Def, good article by Peabody.
the quote from the JPM CEO is really disconcerting -ng-
I'm posting the WSJ piece that is partly quoted in peabody's piece.
July 29, 1999
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Glut Hobbles the Bond Market;
Traders Fret About the Fed
By GREGORY ZUCKERMAN
Staff Reporter of THE WALL STREET JOURNAL
Don't look now, but the bond market is struggling again.
In fact, some investors and traders are calling it the worst period for bonds, particularly riskier ones such as corporate and mortgage-backed bonds, since the global financial crisis of late last year.
This time, the culprit is a glut of bond supply, coupled with worries about the Federal Reserve raising interest rates. While the troubles don't yet compare with those of last year -- and a limited amount of bargain hunting emerged Wednesday -- some traders say the bond market's difficulties could get worse in the weeks ahead.
The concern has spread to Wall Street's senior executive suites.
Douglas A. Warner, chairman and chief executive of big New York bank J.P. Morgan & Co., says even the bond market's most high-quality sectors are jittery. "Liquid markets like agencies, high-grade corporates and mortgage-backed securities are showing reliable indications of increased investor nervousness," he says. Some indicators of investors' unwillingness to take on risk, he says, "are in uncharted territory."
That is a reference to the spread, or difference, between yields on safer Treasury bonds and those of riskier bonds. The spread between investment-grade bonds and comparable Treasurys is now about 1.52 percentage points, near the widest spreads since December, according to Moody's Investors Service. The spread between yields on mortgage-backed securities and Treasurys is 1.29 percentage points, just off its high for the year and up from one point in early June, according to Lehman Brothers.
The difference between 10-year Treasury yields and yields on interest-rate swaps (or the rate paid for a stream of short-term, high-quality bank deposits) is about one percentage point, the widest in 10 years and points to some growing skittishness on the part of investors.
"What has driven spreads to these extremes?" Lehman Brothers asks in a recent report. "The short answer is risk-aversion. The long answer is an enumeration of little woes, all of which add up to a crushing weight" on all types of bonds with risk attached to them.
The current difficulties are "similar to last fall though not quite as bad," and bonds probably won't recover "until it's clear what the Fed's policy will be and we get the big issuance behind us," says Greg Lobo, a money manager at HGK Asset Management Inc. in Jersey City, N.J.
No flight to safe Treasury securities has yet developed, as had materialized in the fall. But all that means is that not even the benchmark 30-year Treasury bond is rallying. Indeed, the yield on the 30-year bond, which moves in the opposite direction of its price, was 6.004% Wednesday, barely changed on the day and near its highs of recent weeks. Instead of flocking to Treasurys, investors are buying newly issued corporate bonds, but not much else. And that adds to the pressure on prices.
Indeed, issuance of corporate bonds in July may top $36 billion, making it the biggest one-month figure in history, according to Credit Suisse First Boston. One reason companies are rushing to issue bonds now is in case investors flee the corporate-bond market ahead of the changeover to the year 2000 (fearing that the Y2K computer bug will disrupt the financial markets).
Wall Street's bond dealers, determined not to suffer the losses of the fall caused by having too many bonds in their inventories as bond prices tumbled, are more reluctant to buy and sell bonds for investors. In the mortgage-backed bond market, for example, Wall Street firms currently hold an average of $18.8 billion worth of agency-mortgage securities and collateralized mortgage obligations, down from $71.5 billion before the crisis of last year, according to Banc of America Securities.
"We're near the lowest levels of the decade, which is why market participants are complaining about liquidity," or the ability to buy and sell easily, says Michael Youngblood, head of mortgage and commercial-mortgage securities research at Banc of America Securities. "There's been a gradual decline of capital from the markets."
"We're again in a difficult period" in bonds, says Kingman Penniman, president of KDP Investment Advisors Inc. who says the average price on a junk bond is $97.55, the lowest level since October and down from $101.67 on April 30.
Wall Street dealers are beginning to charge investors higher costs to compensate them for the risk of taking bonds into their firms' inventories. On Friday, Daniel Dektar, a mortgage-backed bond investor at Smith Breeden Associates, Chapel Hill, N.C., tried to sell benchmark bonds issued by Ginnie Mae, among the most respected names in the mortgage market. Usually it is easy to find buyers and sellers for these securities so Wall Street traders charge markups of as little as 1/32 of a point for each transaction. But last week Mr. Dektar found dealers marking up these bonds by as much as 7/32, about the same difference as October and enough to discourage him from selling the bonds.
"It's been a volatile bear market for all kinds of bonds and in any such market liquidity dries up," Mr. Dektar says.
While trading in some ways reminds investors of the fall's crisis, there are several crucial differences. For one thing, companies aren't finding it difficult to sell new bonds to investors. Instead, a sudden rush of new issues is hurting bond prices -- not great for investor performance but quite good for the economy in general.
Further, much of the leverage, or borrowing, by bond investors has been reduced since the shakeout last year that burnt big-time investors like hedge fund Long-Term Capital Management. So even if bond prices keep falling, the blowups caused by leveraged bets may not materialize.
And a number of market participants say that comparing yields of risky bonds with those of Treasurys is harder to do, because a recent slowdown in Treasury issuance -- due to the improved budget outlook -- makes Treasurys yields lower than they would otherwise be.
Still, issuance of some securities, such as commercial mortgage-backed securities, or CMBS, is starting to run into some difficulties. Issuance of all types of bonds could get more difficult if the Fed raises rates and investors become more risk-averse as the year 2000 approaches. "I'm telling issuers to postpone CMBS deals until market conditions improve," says Mr. Youngblood.
Some investors say the market's weakness presents an opportunity to buy top-grade bonds at higher yields than just a few months ago. "We're getting a gift here," says Barry Evans of John Hancock Mutual Funds. "Usually spreads tighten when rates go up, but the huge issuance on top of higher rates means you should be buying."
Others say things could get worse before they get better.
Bond prices could keep falling "and you don't want to get in front of a freight train," says Maxwell Bublitz of Conseco Capital Management who is sticking to top-quality bonds for now. "We do love our disasters in the bond market and investors are dropping and covering right now."
"The minority of the market believes the worst is behind us, while the majority says there's worse ahead," says Mark Tsesarsky, co-head of mortgage bonds at Salomon Smith Barney who counts himself in the minority's camp.
-- Paul Sherer and Paul Beckett contributed to this article.
Treasury Securities
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