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LuckyOne

Interest Rates Are Rising ......

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We seem to have a lot of "Black Monday" or "Black Friday" threads on this site. This is not one of them as short term market timing is not one of my skills.

It looks like the back end of the yield curve is starting to suffer. The market rates off which mortgages and many other assets are priced are starting to rise. The market is starting to understand that real rates can rise if the supply of debt instruments is large enough even if inflation is not an immediate concern.

Equity markets are also starting to look a little tired. While some indices like the S&P500 are at year long highs, volumes are dropping which does not support the price action.

It is starting to feel like the managers of many asset classes are looking at the performance of other assets (oil, the Dollar, credit spreads, gold, equities, Treasuries etc) and are making the erroneous assumption that historical correlations will hold up again which results in a virtuous cycle for asset prices.

While day to day timing is not one of my strengths, I suspect that the rally since early March is starting to run out of steam. The turning point may happen in two weeks or two months but I suspect that it is closer than many think at the moment.

While some nimble day traders might be able to take advantage of further short term moves to the upside, I think that it is time for investors with a slightly longer time horizon to start to seriously consider the risk of a sharp retracement of the recent moves to the upside in the prices of many assets.

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Can we have a beige Tuesday? Or a taupe thursday?

black is just soo emo.

Brown was going to be the new black for a while ...... And then purple ......

Perhaps grey might be a good compromise ........

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By volumes, I assume you mean the amount of shares being traded daily?

If so, this is interesting and important news - no idea where to find this info myself. Do you have any figures by how much the volumes of shares traded is down?

As for the yield curve, it is oft mentioned on here but I know little of it other than it is a line that is important for chartists and such-like.

When this down-turn comes it will be fast and brutal IMPO - too fast, too brutal and will catch out many small-time investors.

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By volumes, I assume you mean the amount of shares being traded daily?

If so, this is interesting and important news - no idea where to find this info myself. Do you have any figures by how much the volumes of shares traded is down?

As for the yield curve, it is oft mentioned on here but I know little of it other than it is a line that is important for chartists and such-like.

When this down-turn comes it will be fast and brutal IMPO - too fast, too brutal and will catch out many small-time investors.

Your assumption is correct. The number of shares traded daily as prices rise is decreasing which tells us that there is not widespread support for higher prices. We are in a bit of a stalemate position at the moment as volumes when prices are falling are also declining which is a change from what has happened in the last year or so. This impasse should resolve itself within weeks or a few months.

The shape of the yield curve is something that has always fascinated me (cue the sounds of at least two anoraks being dragged onto centre stage). Monetary authorities can control short term interest rates. For short periods of time, they can control longer term rates (an example is the short term effects of QE). In the medium and long term, the market controls the level of 5 to 30 year interest rates despite the best efforts of the monetary and fiscal authorities to manipulate the market.

I think that it was Bill Clinton who said that he wanted to be a bond trader in his next life as they were more powerful than the President of the United States.

Most material financial decisions are made from what happens to 5 to 30 year interest rates rather than very short term rates. While low short term rates are bailing out those with tracker mortgages, the increase in longer term rates is a more negative influence on large, longer term financial decisions than some realise.

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Your assumption is correct. The number of shares traded daily as prices rise is decreasing which tells us that there is not widespread support for higher prices. We are in a bit of a stalemate position at the moment as volumes when prices are falling are also declining which is a change from what has happened in the last year or so. This impasse should resolve itself within weeks or a few months.

The shape of the yield curve is something that has always fascinated me (cue the sounds of at least two anoraks being dragged onto centre stage). Monetary authorities can control short term interest rates. For short periods of time, they can control longer term rates (an example is the short term effects of QE). In the medium and long term, the market controls the level of 5 to 30 year interest rates despite the best efforts of the monetary and fiscal authorities to manipulate the market.

I think that it was Bill Clinton who said that he wanted to be a bond trader in his next life as they were more powerful than the President of the United States.

Most material financial decisions are made from what happens to 5 to 30 year interest rates rather than very short term rates. While low short term rates are bailing out those with tracker mortgages, the increase in longer term rates is a more negative influence on large, longer term financial decisions than some realise.

Fascinating. Thanks for explaining.

I remember the dot.con bubble bursting and millions of day traders got badly hurt by the sharp and sudden down-turn. I think the same will happen again when this rally heads South.

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I remember the dot.con bubble bursting and millions of day traders got badly hurt by the sharp and sudden down-turn. I think the same will happen again when this rally heads South.

Day traders.

Where are they now?

Probably in Maidstone.

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Your assumption is correct. The number of shares traded daily as prices rise is decreasing which tells us that there is not widespread support for higher prices. We are in a bit of a stalemate position at the moment as volumes when prices are falling are also declining which is a change from what has happened in the last year or so. This impasse should resolve itself within weeks or a few months.

Cheers for that. Have been looking around my usual suspects and saw that drop off in volume combined with an end to the rapid price rises (we've had a good few weeks of it now?) and wondered what the implications were. My totally amateur guess was along the lines of...

They're no longer pricing in TEOTWAKI so have merely rebounded to the pretty ******ed position, and are now trying to work out how ******ed, in which orifaces, and for how long.

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Your assumption is correct. The number of shares traded daily as prices rise is decreasing which tells us that there is not widespread support for higher prices. We are in a bit of a stalemate position at the moment as volumes when prices are falling are also declining which is a change from what has happened in the last year or so. This impasse should resolve itself within weeks or a few months.

The shape of the yield curve is something that has always fascinated me (cue the sounds of at least two anoraks being dragged onto centre stage). Monetary authorities can control short term interest rates. For short periods of time, they can control longer term rates (an example is the short term effects of QE). In the medium and long term, the market controls the level of 5 to 30 year interest rates despite the best efforts of the monetary and fiscal authorities to manipulate the market.

I think that it was Bill Clinton who said that he wanted to be a bond trader in his next life as they were more powerful than the President of the United States.

Most material financial decisions are made from what happens to 5 to 30 year interest rates rather than very short term rates. While low short term rates are bailing out those with tracker mortgages, the increase in longer term rates is a more negative influence on large, longer term financial decisions than some realise.

wow, your pretty clever, you must read alot of books on that sort of stuff.

love the bill clinton reference and the perspective on control of interest rates, fascinating.

do you think Gordon Brown knows that sort of stuff? Would he admit that? Would he have a fluent understanding of those principles?

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There is something very fishy about this market rally - worst shares performing best, markets rising even though some of the biggest fund managers staying out of the game... all seems like a giant ponzi manipulation IMPO.

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As for the yield curve, it is oft mentioned on here but I know little of it other than it is a line that is important for chartists and such-like.

Yield curve.

The government (and business) issue bonds to get funding, this is just a loan to the government to the person purchasing the bond.

Bonds have a lifetime, when they reach maturity, the bondholder redeems them, with the government paying an agreed amount of money; this pre agreed amount is called the face value of the bond.

Clearly people will not loan money to the Government for ‘free’, but will require interest be paid. This interest is called the coupon (old non electronic bonds had detachable coupons). At regular intervals throughout the bonds life, the coupon would be detached, sent to the bond issuer who pays the pre-arranged value of the coupon.

The story is slightly trickier at the beginning when the bonds are issued. When you buy a bond, you do not pay the face value (that’s what’s paid to you when it matures), you pay the market rate, decided by how many people want to buy those bonds, and how many people are selling them. As the face value of the bond and the coupon are fixed, a change of the price of the bond will change the interest rate it pays.

Imagine a fantasy bond, with a face value of £100, paying a coupon of £10 every year, and maturing after 10 years. If I buy that bond for £100, then it pays £10 interest per year, which is 10%. However if I only pay £80 for that bond, then £10 interest per year is not 12.5%, and conversely if I pay £120, then the coupon of £10 per year corresponds to an interest rate of 8.3%. So the interest rate paid by the bond varies inversely with the price of the bond. If bond prices go up, then they are paying less interest, if they go down then they are paying more interest.

When a long-term bond is near maturity, then I would care more about the face value than the coupon. In our example if I was buying a ten year bond that was in its 9th year, then I will receive one coupon of £10, and the principle of £100 in a years time, therefore I would expect to somewhat under £110 for the bond, because that’s all I’m going to get for it. If I’m buying a freshly issued 10year bond, then I really care about the coupon, as it entitles me to 10 payments of £10. If you think that inflation is going to kick in over the next 10 years, then the face value of the bond will be next to worthless, and you will be buying the bond just for it s coupon.

There are all sorts of government bonds out there with various lengths of time until they reach maturity. Each of these will have a certain interest rate associated with them, because of the current market price for the bond and the value of the coupon. Now you can plot a graph with the x-axis showing the length of time till maturity, and the y-axis showing the interest rate paid by such a bond. That graph is called the yield curve.

The yield curve shows the markets idea of what inflation will look like over the next 30 years. It also shows if the market thinks that the government will be issuing lots of bonds (supply), or if the central bank will be buying those bonds up (demand).

Government debt is considered the safest (least likely to default), so interest rates charged on other issues of debt are calculated relative to the rates on the government debt. If for example you want a 30 year mortgage, then go and look at the rates paid for 30year government bonds (the long end of the yield curve), and add a bit on.

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Great post toodimm - it was a nice, concise explanation.

+1.

I finally understand them and hence I now understand why they say that the IRs on these bonds are rising... partly because of worries about the safety of bonds issued by the US and UK Govts but also because the markets are factoring in inflation in the years ahead.

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wow, your pretty clever, you must read alot of books on that sort of stuff.

love the bill clinton reference and the perspective on control of interest rates, fascinating.

do you think Gordon Brown knows that sort of stuff? Would he admit that? Would he have a fluent understanding of those principles?

This is more about pattern recognition than reading books ...... I have made lots of mistakes while involved in markets but have reduced my error rate over time .......

I don't recall who it was that said that history doesn't repeat itself exactly but that it certainly rhymes .....

I am cynical enough to believe that Gordon Brown, Mervyn King, Alistair Darling, Barrack Obama, Ben Bernanke and Timothy Geithner understand the rules of the game and that they think that they are "superior" enough to win it this time.

The reality is that they are still just pawns in the market's game and they will be overwhelmed by events. This process will be even more painful than normal when their manipulations fail.

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im a day trader in the futures markets - nasdaq dow s+p ftse etc. volumes are very low. im keeping my positions very small. seems to be resistance around 950. im looking for a break-out on the down side probably eventually breaking march lows. no idea when and whether it will be sharp or orderly like the last 3 months rises have been

bond yields need to fall - the stockmarket is going to have to be the fall guy

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