Bond market is cooked transcript

Okay, guys. There a lot to cover in the market. So, the market is absolutely going crazy. Now, I've never seen anything like this happen before, and this is probably the most confusing situation I've ever seen. So, last week the S&P was down 0.8% and Nasdaq was down 0.7%. Now, what's important is not the movement of the equity market, but movement of the bond market. The 10-year bond yield is now at 4.975%. This is almost 5%.

Now, I said previously that in order for the market to enter a stable state, we would need to see the 10-year bond yield go down to around 4.1%. Now, I think the 10-year bond yield, when I said that, was at around 4.5%. Now, then it went up to 4.7% and then it went down a little and then went back up to 4.8% and now is at almost 5%. So, basically, the global bond investors are all crooked. And I'm not saying this like generally, but I mean it.

Bond investors are seriously screwed. Now, generally, bond investors in large institutions and hedge funds take on a lot of leverage. Now, how it generally works is if they buy $100 million of bond, they would provide that $100 million of bond as a collateral and get around $90 million of loan and use that borrowed money to buy $90 million of more bond and use that $90 million of bond to borrow $81 million of money and buy that $81 million of bond again and so forth and so forth.

Now, what I'm trying to say is bond investors generally take on 5:1 or even 10:1 of leverage when they buy the bonds. Now, if we look at the chart, in the past 1 year, the 10-year yield went up by almost 25%. Generally, 10-year bond prices have a duration of roughly eight, meaning a 100 basis point increase in yield causes an 8% drop in the bond price. Now, in the past year, the 10-year bond jumped almost 100 basis point, meaning an investor who is leveraged 10 to 1 would have been hit with an 80% equity wipeout.

Now, this is just a theoretical math, but what I can say with comfort is that most bond investors are already screwed. Okay, so let's find out why this is happening in the bond market. Now, the reasons are pretty obvious. Number one, the war. So, this week, the US military has struck five Iranian oil tankers, and Iran claims that it struck 10 vessels in a US base on Jordan in retaliation. Now, basically, the Strait of Hormuz is again being heavily contested, and things are back to square one.

As I said in my previous video, I think Trump realizes now that it can never end this war before the midterm elections, so he's shifting his strategy by triggering more actions to at least win the votes of the radical rights or far rights. Now, number two, the oil price. Now, as a result of the ongoing war and the recent actions taken by the US and Iran, the oil price is now right back up at $100 per barrel. It went down to around $70 in early July, and now is back up to where it was when the war first erupted.

And number three, the competitive bond market. As I said multiple times, the bond market is in a fierce competition where the US Treasury bond is competing against quasi-sovereign companies like Amazon, Microsoft, and Google. Now, the big techs have issued even more bonds in recent months, which makes the total year-to-date issuance of roughly $200 billion. dollars. Now, it almost feels like the US government and the big techs are in an auction war with their bonds, raising the interest rate higher and higher.

And number four, the Federal Reserve's commentaries. As I said in my previous video, the Fed is not helping the market in any way. At the Jackson Hole speech, Warsh basically said that the inflation levels are not satisfactory from their standards and they'll take necessary actions to calm the inflation down. Now, I don't know what the real intentions of the Fed is, but what I know, and I repeat that what I know is that we should not take the Fed's words as is because for now, they want to look independent and may just be orchestrating an act with Trump and the Treasury to boost the market again in the future.

However, as this continues, the market will become more and more concerned about the future interest rate trajectory. Number five, the latest CPI. The year-over-year August CPI came out at 3.4%, which is still extremely high. Now, the problem is with the recently exacerbated war situation and the oil price, nobody cares about this 3.4% number. Everybody only cares about how higher this 3.4% number will go in September and October.

And it is just making the investors even more worried. Now, as a result, the yield is going parabolic to almost 5% and also the chances of a rate hike in the next FOMC meeting is reaching 90%. And by the year end, the market is pricing a 75% chance of two or more rate hikes. Okay, so these are simple facts and where the market is at. Now, under the current circumstances where the market is pricing in two rate hikes with the 10-year bond yield going up to 5% and oil price hovering around $100, it makes sense for the equity market to crash.

Now, when I say crash, I'm talking about at least at least a 10 to 15% correction, which reflects the shift of micro dynamics preparing for the uncertainties ahead. Now, obviously, depending on the actions which the Fed or the Treasury takes afterwards, the market can rebound, but generally speaking, a good amount of correction makes sense in a situation like this. However, the equity market is still kind of holding up.

I mean, it did show some downward movements this week, but if we zoom out, the market has been rather flattish for the past few months. So, why is this? Now, based on what happened in recent weeks, I think there are three primary drivers. Number one, the actions by the Treasury. Now, in my previous video, I explained about number one, the Treasury's involvement in preventing Japan from selling the US bonds by purchasing Japanese yen with euros, and number two, their announcement of an upsize in the shadow QE.

The Treasury basically said they're going to double the size of its government debt repurchase program, increasing the maximum size to 4 billion per round from the original size of 2 billion. Now, the first part involving the Japanese yen was not a success, as it only very slightly decreased the bond yield for like a single day and went straight up again. Now, for the debt repurchase program, Bessant very recently made a comment to the whole world, which surprised everybody.

Bessant said, "I am the house." You guys know what I mean. He basically announced and said to the whole world that he is the house. Basically, he's saying, "Guys, I'm the so don't even think about fighting against me." Do you get what he was trying to do? Back in 2008, Hank Paulson, the former Treasury chairman, said, "I have a bazooka." And he announced a quantitative easing of over $1 trillion. So, if a bazooka is a trillion, how much would "I am the house" comment worth?

The market was like super enthusiastic. Like, I don't know exactly, but I'm sure the street was like "Oh my god, I am the house." Sounds like 10 x more powerful than a bazooka. we may be in for a treat. How much of buyback is he going to do? Oh my god, I just can't wait. Now, on Wednesday, Bessant made a grand announcement on what the buyback amount would be. The market was silent and listened carefully. Is it going to be a trillion?

No, he said he's the house. 2 trillion? 3 trillion? I mean, realistically, the maximum that he announced before was 4 billion. So, it's not going to be like multi-trillions, but at least I think the market was expecting like 10 billion or 20 billion. Then, Bessant made the announcement saying, "I will buy back $6 billion worth of Treasuries." Guys, now I think the market probably misheard him at first thinking it was 6 trillion, but at the end of the day it was 6 billion.

So, what happened after the announcement was basically it pushed the rate even higher. Not sure if it was due to the disappointment or because of the oil price, but the 10-year yield just surged to 4.8% and was pushed up again to 4.9% and then to almost . Now, basically, Bessant was fighting solo in the battlefield trying to tame the market, calm the market, and control the market. However, nothing is working and even if it works, it's only working for a single day.

Now, despite Bessant's failures, the equity market is not crashing. And at this point, the only way I can interpret this is I think the equity market is giving at least and at least some credit to the Treasury that they're aware of the situation and the Treasury does not want the market to crash. I do think the equity market realizes that the Treasury's efforts are not really working, but the fact that the Treasury is showing some motivations to sustain the market, I think, is somewhat working.

And number two, the growth of the AI industry. Now, as I say all the time, the equity market is a formula of balancing between the growth and the bond yield. If the growth of the key companies outpace the bond yield, the equity market can still go up and vice versa. The key companies like Oracle, Microsoft, Anthropic, OpenAI are still recording healthy growth. Now, given the recent growth of the key AI companies, I think the equity market is still trying to hope for an optimistic scenario where all the earnings releases of key companies come out so good to the extent where the bond yield does not matter anymore.

And number three, still trusting the Fed bros. Now, as we saw at the Jackson Hole speech, the Fed is sounding pretty stubborn about their stance. They've repetitively been saying that the current inflation is not meeting their targets and that they will take actions if this continues. However, a lot of investors seem to be ignoring what they're saying, thinking that number one, the Fed will not raise the rates in September.

And number two, the Fed will come up with a different inflation measurement criteria, which will give more room for the market. And number three, at the end of the day, the Fed will play along with Trump and Treasury and go the dovish path one way or the other. Okay, so those are the dynamics I'm seeing in the market at the moment. So, to summarize, number one, the bond market is getting crushed to the extent where the 10-year bond yield is reaching 5% reflecting two rate hikes within the year.

And number two, the reasons for the rising yield are number one, the war. Number two, the oil price. Number three, the competitive bond market. Number four, the Fed. And number five, the latest CPI. And number three, the reasons for the equity market not crashing are number one, the Treasury's motivation. And number two, the growth of the AI industry. And number three, trust in the Federal Reserve. Now, I really hate to say this, but I think it's coming to a stage where predicting the market is becoming meaningless.

The market is almost turning into a quasi casino where equity investors and bond investors are looking at completely different directions, betting against each other, while nobody really knows what to expect. The Fed has decided to cut off all communications with the market, so the rates may rise or may stay flat this month, and either way, both are probable scenarios to the extent where it may not be a surprise for the market.

Also, given Trump has lied almost 40 times already about the war ending, it'll also not be a surprise even if Trump announces again tomorrow that the war has ended. Also, given where Treasury is headed, it'll also not be a surprise even if that sent steps in tomorrow announcing a even bigger buyback. Now, if you flip everything I just said now, even from the other side of the scenarios, it also still makes sense. Now, the next FOMC meeting is upcoming, and personally, I really hope that the Fed gives us some kind of indication or signal for us to strategize our investment.

Based on where we are now, it's extremely hard to read the market, and to be honest, I personally never seen anything like this before. So, let's try to stay put and carefully monitor the upcoming FOMC. I hope you enjoyed the video, and I'll be back with more videos very soon.