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Minyan Mailbag - Flattening Curves

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Note: Our goal in Minyanville is to remove intimidation from the financial markets and encourage an interactive dialogue among the Minyanship. We share this next discussion with that very intent.

John,

Well, the curve just keeps getting flatter and flatter. Combine that with the UK and Australia and a big part of our planet is sending an interesting message IMO. We are at 90 basis points on the 10/2 yr curve. IMO, Greenie has some splaining to do next Tuesday because the market is clearly saying it doesn't want 4% on the Fed funds rate by the end of the year. If he indicates he is going to do it, I expect the dollar to go higher and the market to head RAPIDLY south as asset deflation becomes a prominent theme until he realizes the mistake of going to 4%. Your thoughts?

Minyan Mark

P.S. Shouldn't General Motors (GM) cease their dividend to repair the balance sheet? Isn't cutting the dividend effectively a buyback of almost junk debt?

Mark,

One of our biggest themes is the flattening of the curve, a result of the market doubting the Fed's "medicine": throwing cheaper and cheaper money at the over-capacity problem. We have talked about this extensively: instead of letting capitalism run its course, a course of down business cycles that destroys inefficient capital, the Fed has been easy far too long...providing liquidity not to "grow productive assets", but to inflate all asset prices.

Now the "market" is demanding a real cure. Short rates have been rising as our trading partners (who predominately own the short end of the curve) are demanding more yield. Long rates are falling as longer term investors see rising short rates as a brake on long term growth. The GSE's are also supporting the long end. So far we have been fortunate that the long end is holding up (the part that would really brake the mortgage business)...if not, the "really bad scenario" begins to unfold.

As part of our theme we have been buying cheap options (gamma) in large financial institutions. It is difficult for these companies to make money with a flat yield curve (anti-carry) and they are so leveraged, there is no room for error.

As for GM, they will probably not cut their dividend unless forced to from further downgrades. If S&P does downgrade, they are likely to actually recommend such; I put the odds of this around 50-50.

Regards,
Prof. Succo

position in gm and the GSE's.

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