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Stampede to safety ends up where else? U.S. Treasuries

The tumultuous events of recent days in Japan, the Middle East and North Africa have tag-teamed with existing worries about further economic and financial shocks to take global stock, bond and commodity markets to new levels of uncertainty and volatility. The closely watched U.S. equity volatility gauge known as the VIX (the formal moniker is the Chicago Board Options Exchange volatility index), leaped to its highest level in eight months, and the U.S. Treasury market was hit with its biggest price swings since early February.

But, for all that, the markets merely reaffirmed the traditional verities. When the investing hordes flee anything bearing a semblance of risk, they typically head straight for U.S. Treasuries or other highly rated government bonds. And this time was no different. Even gold and other previously soaring commodities got trampled in the stampede to safety.

True, Treasuries slipped a bit on Friday when it seemed for a brief time that the Japanese might be able to contain their radiation threat and Libyan leader Moammar Gadhafi might actually obey a UN directive to cease hostilities. But hotter heads and fuel rods prevailed. So it's a safe bet that safe-haven investing will be the order of the day for a while, with often-maligned U.S. government bonds once again holding sway at the top of the world's must-own list.

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None of this comes as a surprise to Robert Kessler, whose eponymous Kessler Investment Advisors of Denver devises and runs U.S. Treasury portfolios for large corporations and financial institutions around the world. It was simply a matter of the markets behaving exactly the way they are supposed to whenever a thick blanket of fog descends and the directional signs become hard to read.

"This market is closely adhering to long-established tradition," Mr. Kessler says. "It is exactly the way it always works. There is no new world out there. There's nothing unusual about people moving into what we would consider safety plays."

Not even the prospect of the Japanese cashing in U.S. bonds to help pay for their epic cleanup and reconstruction could keep Treasuries down for long. "When push comes to shove, the bottom line is that there is such a massive amount of money in this market. So what's $100-billion (U.S.)?" he says, referring to estimates of how much the Japanese might withdraw.

Mr. Kessler is noted for pouring cold water on cherished views about such hot-button topics as inflation (it's still not a concern in the industrial economies), commodities (why overpay for them when consumption is weakening?) and the future of the U.S. dollar, which is not nearly as grim as some analysts insist, because there aren't a lot of alternatives.

"The Canadian dollar would be perfectly fine. But it's not a big enough currency." Norway ranked No. 1 last year on a list of the world's safest sovereign risks. "So go tell the average investor: 'Put all your money into kroner.' Give me a break."

Needless to say, Mr. Kessler also takes issue with the growing crop of Treasury and greenback bashers, including the likes of famed bond investor Bill Gross, who has shifted his giant Pimco Total Return Bond Fund, the largest mutual fund on the planet, away from all but short-maturity Treasuries.

"Bond yields and stock prices are resting on an artificial foundation of QE II credit," Mr. Gross wrote recently of the role played by the U.S. Federal Reserve's latest - and soon to expire - quantitative easing program in propping up asset prices. "Who will buy Treasuries when the Fed doesn't?"

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The answer, as the pattern of last week illustrates, is just about everybody. No one typically seeks Treasuries or any other highly rated government securities as an investment, Mr. Kessler argues. "They don't pay enough to make it an investment. That isn't why you're buying them. It's totally secondary. You're buying them because you know you'll get your money back. …The vast majority of people cannot afford to lose money." Which is one reason the market consistently ignores the Bill Grosses, the Nassim Talebs and other prominent Treasury and dollar detractors.

He dismisses worries about the high and rising U.S. deficit, which underlies the negative prognosis for the U.S. dollar and government bonds, as largely a creation of conservative analysts aided and abetted by the media. "Most of the writing on the Treasury market and the debt has reached almost an absurd level," he says, noting that we saw the same hand-wringing back in 1989. "No one thought the U.S. would ever escape the deficit. By the late 1990s, we had a surplus."

That is not to say the debt-laden United States is close to climbing out of the swamp. It's just that jittery investors have once again made it clear they would rather be in Treasuries than take their chances just about anywhere else at times like these. "It's where people feel safest."

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About the Author
Senior Economics Writer and Global Markets Columnist

Brian Milner is a senior economics writer and global markets columnist. In a long career at The Globe and Mail, he has covered diverse business beats, including international trade, the automotive industry, media, debt markets, banking and the business side of sports. More

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