War and debt

The U.S. is negotiating terms with Iran to end the war. We don’t know who is the Iranian negotiator, and we don’t know if they will abide to agreed terms. At the same time, the U.S. is sending troops to the region to be prepared in case negotiations fail. Perhaps even if they succeed. Markets are unease about the outcome. So much so, that yesterday’s 2 year Treasury auction was bad. The yield rose to 3.9% and its stable around those levels (see chart below). This is very important as the 2 year bond is a very good indicator/predictor of Fed Funds, and right now it indicates no cuts. It’s 15 bps above the discount rate upper range. A big reason for that is because the U.S. has a 5.8% deficit to GDP problem. That’s almost double the desired 3%. In the upper chart below, you can see there are $10Tn of treasury debt instruments maturing within the next 12 months. That’s 33% of total debt. That’s why auctions are not going well. And that’s why they are probably going to get worse. Costly wars don’t help. If the Trump administration is able to “close the deal” with Iran, they will return home to a big pile of debt. And that’s a tougher conflict to win.

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