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Is US Bond Market Bubble Getting Ready to Burst?

January 13th, 2014 | by Morris Beschloss | Comments

After almost five years of rock-bottom, federal fund driven interest rates engendered by the Federal Reserve Board’s successive quantitative easing of U.S. Treasury Department bonds and major bank-held mortgage-backed derivatives, plus hyperactive foreign investors trusting America’s security track record, a major reversal may be in the offing.

Although traditional inflation-driven spirals do not appear on the horizon, a bloated, unstoppable national debt, compounded by costlier debt service and interest rates could drive commercial rates ever higher. Rating agencies will likely do their part by downgrading America’s debt status, driving the U.S. Treasury costs even higher.

This additional weakening of the Treasury Department’s yield curve could bring the critical 10-year note, the basis for most commercial loans, to a level not experienced since the pre-”fiscal recession” days. If these circumstances unravel, as foreign investors, as well as millions of U.S. bond holders follow suit, it is likely that the U.S. bond market could also sink, driving yields higher.

What could make matters even worse is that the Federal Reserve system, already holding a balance sheet level well over $4 trillion, may be forced to stop its quantitative easing, before the central bank’s greatly reduced Treasury debt and mortgage-backed derivatives get completely out of hand.

This is, of course, a worst case scenario warning that may develop during a hopeful economic year. 2014 is otherwise expected to show great promise in the dynamic arenas of energy, exports, construction, and technology.

But if the nightmarish scenario of federal funds interest rates, depicted herein, skyrocket, the multi-year artificial attempt to keep the fed funds at an all-time low could severely backfire and undermine what now appears as a major economic comeback in 2014.

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