Tuesday, September 19, 2006

The Interest Rate Spike

If you read today's paper, one of the largest hedge funds, Amaranth, took a 35% hit to assets. to the tune of 3 billion dollars. It only took a week. Most nightmares occur while you're asleep, this one is not going away when you wake up in the morning. Amaranth is selling corporate bonds to raise the cash.

What we are looking at here is the smell of smoke and its liable to get worse. Consider this a trial run for a date set in the future. Imagine all of the real estate second trust deeds going to zero and you can see a lot of hedge funds that have "insured" these "fine investments," out in the market trying to raise cash.

Step back for a minute and remember that the Feds sell a thirty year bond that's paying about 5%. Also most people are fully invested in something, house, stock market, gold, bonds. So, there is no liquidity for quick investment if you hold these assets.

Now picture the hedge funds starting to fall apart. Their objective is to raise cash. Sell assets like bonds and stocks. They need cash. Who has cash when the call for cash is quite large? At this point, the interest rate rises only because there are too many bonds at 5% for sale. Nobody wants them at that interest rate. Considering the potential losses in the second trust deed market, interest rates could spike to 20%.

So if interest rates were to hit 20% you could buy 30 year Treasury's at 25 cents on the dollar. $100,000 Treasury bond paying 5% could be bought for $25,000 in the ensuing panic. Remember, you have to have access to cash money to buy.

The damage and destruction would be over in a matter of weeks. From there, the bond market could be back to normal. So if the interest rate dropped back down to 5% the bond you purchased for $25,000 would now be worth $100,000 ---- a chance to quadruple your savings.

Sound far fetched? History doesn't quite repeat itself. Are you ready for the ride? ---The ride that will be "different this time?"

Cash will be King. For how long is anyone's guess. Are you ready for it?


David Ashley Gilbert said...

Your blog entry was very interesting. I am a realtor specializing in Tampa Bay Florida Real Estate .

chris mcdonalds said...

but what about USD crashing? would cash be "king" then??? i think i'm going to move some to euro and yen... perhaps more to euro???


Jim in San Marcos said...


If the US devalued the currency, it wouldn't be a visible event in the United States. Imported goods would be more expensive, likewise our exports would be cheaper to foreign countries.

If you were in China holding US dollars the devaluation would burn you when you go to convert them to your own currency.

If you wanted to convert US currency in anticipation of a devaluation, you might want to open up a Swiss bank account. I haven't messed with it in over 20 years, but they use to allow you to hold different currency's in your account and I don't remember being charged for it. You can do it all by mail, I think that I used Credit Suisse Bank in Z├╝rich

If we did devalue the dollar, probably every other country would do the same. The country with the cheapest goods keeps their workers employed.