Today, I’d like to address a curious phenomenon developing in the Treasury market.

March 31st supposedly marked the end of the Fed’s quantitative easing (Q.E.) phase. We were told the Fed would no longer print money and buy mortgage backed securities. There was, of course, no discussion about the Fed printing money and buying other assets. However, ‘ending Q.E.’ carries certain implications and it would not be a stretch to say market participants were led to believe Q.E. in all forms was coming to an end.

Enter ‘curious phenomenon’: Treasury market behavior since March 31st would suggest Q.E. is alive and well. During the month of April, long rates rallied from about 4% to roughly 3.7%.  Treasury prices went up as rates went down after the Fed allegedly stopped Q.E.?! Needless to say this is not the response most market participants would expect.

I’m sure we can come up with more than one reason for this Treasury strength. Perhaps the issues emanating from Europe have driven investors into the relative safety of  US debt. Or maybe Goldman Sachs led financial fears are responsible for the Treasury bid.

However, the following excerpt from ‘The Privateer’ (A favorite publication of ours) offers a compelling argument supporting the theory that the Fed is continuing a Q.E. assault on the credit markets. If this theory is accurate, we would expect any equity market selloff to be contained to a normal uptrend retracement. Moreover, precious metals prices should continue to advance as more Q.E. equals further currency debasement which is a tasty recipe for higher Gold and Silver prices….

The US Treasury auctioned $11 Billion worth of “TIPS” on April 26. They started to sell the regular stuff on April 27 with an auction of $44 Billion in two-year paper. With the Greek debt downgrade to “junk”, hardly anyone noticed. Hardly anyone, that is, except the bidders for US Treasury paper. Indirect bidders (read foreign central banks and governments) bid for only 28 percent of the paper, down substantially from the average demand in 2009.

But much more troubling was the massive 24 percent of the paper on offer taken by the so-called “direct bidders”. The rest was presumably taken by the “primary dealers” in Treasury paper. The “direct bidders” had taken as much as 10 percent of the auction on only 12 of 42 auctions since July last year. They had taken that much only six times in all the auctions held by the US Treasury in the FIVE years from the beginning of 2004 until the end of 2008.

Even more disquieting, the identity of those who are included as “direct bidders” is never disclosed. The fact that the amount of Treasury debt taken by “direct bidders” has blown out since the Fed officially ended its quantitative easing at the end of October 2009 has led to speculation that the Fed has not REALLY ended its policy of monetising Treasury debt after all. More and more analysts (including some mainstream analysts) have come to the conclusion that the “direct bidder” is none other than the Fed. They are almost certainly right, but nobody can know for sure because the “direct bidders” are secret….