That plunge took many traders, talking heads and politicians by surprise.
Our "leaders" in Washington D.C. were heard to say: "Nobody saw this coming."
Well, that's just not true. Not one iota.
If you've been reading Money Morning you saw this coming. So did tens of thousands of our Money Map Report subscribers.
I've been warning that 10 year yields would drop below 2% then hit 1.5% for more than 2 years now.
In fact, our readers had the opportunity to profit handsomely on our bond related recommendations that have earned them 30%-71% so far.
What does this mean for you?
First questions first...
Now that we've busted 1.5%, the next stop is 1%.
I can even see negative yields ahead, meaning that investors who buy Treasuries will actually be paying the government to keep their money.
Be prepared. I'm going to show you here what to do and - yes -how you can profit from this move-- even at this stage of the global financial crisis.
Why Bond Yields Will Continue to FallFirst off, 10-year yields dropping to 1% means several things:
- Bond prices go even higher. Rates and prices go in opposite directions. Therefore when you hear that yields are falling, this means that bonds are in rally mode.
- The world is more concerned with the return of its money than the return on its money. You can take your pick why. Personally I think it comes down to two things above all else: the looming disintegration of the Eurozone and the fact that our country is $212 trillion in the hole and warming up for another infantile debt ceiling debate instead of reining in spending.
- More stimulus. Probably in the form of a perverse worldwide effort coordinated by central bankers as part of the greatest Ponzi scheme in recorded history.
Blame the tumultuous tumble in equities Wednesday on Europe.
World markets were shaken as worries over the Eurozone debt crisis, in particular the Spanish banking system, again rattled investor confidence.
The Dow Jones was down 160 points, the S&P 500 fell 19 and the Nasdaq lost 34.
Sending shivers through markets Wednesday was a statement from the European Central Bank (ECB) saying it had not been consulted on the bailout for Spain's No.4 bank Bankia, and that such a recapitalization could not be provided by the Eurosystem. Spanish lender Bankia announced last week it needs $23.8 billion in state aid.
Also weighing on markets was Spain's debt downgrade late Tuesday by independent ratings agency Egan Jones. The move sparked more questions about the ailing country's ability to fund bank bailouts that could balloon to some 100 billion euro.
A number of other Spanish banks have recently been downgraded by various rating agencies. The woes hanging over Spain and its sickly banking system shoved the euro down to a near two-year low Wednesday of around $1.24.
"I believe that the markets have not yet fully priced in a Greek exit, nor the full implications of a Spanish default - both of which remain distinct possibilities in my mind," said Money Morning Chief Investment Strategist Keith Fitz-Gerald. "Until they do, expect trading to be an unholy mess of rallies driven by hopes for further bailouts, and short, sharp declines driven by the absence of the same."
Now the EU has a new bailout plan.
Those elections, and the failure of Greece to form a government, have actually moved the Eurozone crisis one step further - from potential tragedy into a complete farce.
As investors, we can only watch horrified, knowing that a really bad outcome would seriously damage our own wealth.
But at this point, a Greek exit - or "Grexit" as it has come to be known - from the Eurozone would be the best thing that could happen.
Confusion Surrounds the "Grexit"The Greek election produced a very confused result. But one thing was clear: the Greek electorate has decisively rejected the rescue plan the outgoing government had so painstakingly negotiated with the EU.
The previous ruling party's joint support declined to just 32% of the vote. That might be thought of as just retribution, since those parties produced Greece's appalling fiscal mess by lying for decades about the true position of Greece's public finances. (And let us not forget being abetted by Goldman Sachs in doing so).
However, the winners were not some new paragons of fiscal responsibility and free market government. They were anti-German Nazis (a peculiar combination when you think about it), communists and a truly unpleasant new leftist party, SYRIZA, led by the 37-year-old Alexis Tsipras.
SYRIZA's politics, in that one can fathom them, spell nothing but trouble.
It appears Socialist Francois Hollande will win the French election runoff on Sunday and that June's legislative elections will give the Socialists a powerful position in France's parliament.
Added to these developments is the good chance that both the major existing parties in Greece's parliament, which had jointly agreed to the bailout deal, will be voted out of office on Sunday as well and replaced by a motley set of far-lefties.
So while the Eurozone has been quiet this week, the calm is deceptive with the elections on Sunday.
Meanwhile, most of the worry in the Eurozone centers on Spain - which is quite foolish.
Spain recently elected a center-right government with a large majority, which is clearing up the mess left by its predecessors. The country does have a 25% unemployment rate, but that's a function of Spanish labor law and excessive welfare payments, both of which the current government is addressing.
Spain's budget deficit is also smaller than France's, as is its debt level. In fact, Spain's debt and deficit burdens are lower than both Britain and the United States. Spain is not the issue.
Considerable Danger in the EurozoneAs for Greece, it is a shambles.
The truth is it should have been chucked out of the Eurozone two years ago, when it was first revealed that its governments had been consistently lying about its budget numbers.
Had that happened, the new drachma would have sunk to about a third of its former value, and Greek living standards would have reduced by half, all without anything but market forces to be blamed.
Now hundreds of billions of euros have been poured into the country, and its ungrateful electorate is determined to elect every nut-job it can rake up. The whole Greek rescue project has been a complete waste of time and money, and should be ended forthwith.
Fortunately, throwing Greece out of the Eurozone will not destroy the euro - after all, nobody was relying on the strength of the Greek economy in their calculations of the euro's value.
However, France is a different matter entirely.
Unlike Greece, if France gets into serious trouble, the remaining "solid" euro economies led by Germany are not big enough to save it.
And, led by Hollande, France looks to be in considerable danger.
The 1 trillion euro ($1.3 trillion) slush fund created to keep the chaos at bay is not big enough. And it never was.
Spanish banks are now up to their proverbial eyeballs in debt and the austerity everybody thinks is working so great in Greece will eventually push Spain over the edge.
Spanish unemployment is already at 23% and climbing while the official Spanish government projections call for an economic contraction of 1.7% this year. Spain appears to be falling into its second recession in three years.
I'm not trying to ruin your day with this. But ignore what is going on in Spain at your own risk.
Or else you could go buy a bridge from the parade of Spanish officials being trotted out to assure the world that the markets somehow have it all wrong.
But the truth is they don't.
EU banks are more vulnerable now than they were at the beginning of this crisis and risks are tremendously concentrated rather than diffused.
You will hear more about this in the weeks to come as the mainstream media begins to focus on what I am sharing with you today.
The Tyranny of Numbers in the EurozoneHere is the cold hard truth about the Eurozone.
To continue reading, please click here...
Even Andrew Roberts, a wonderful historian with whom I almost always agree, wrote in the Financial Times that "Europe's fire has gone out."
Today, the markets may welcome the Greek bailout deal, but behind the scenes they still dread the fact it won't work.
Meanwhile, hushed whispers are still being muttered about a Greek default as being "worse than Lehman."
On this subject I am a firm contrarian.
If Greece does default and is thrown out of the Eurozone, then I think Europe is actually due for a rebound - not a collapse.
It's only if they decide to bail out Greece again that I would become less optimistic.
If that is the case, they would be devoting hundreds of billions of taxpayer dollars (or euros, as it were) to propping up an inevitable failure. Even then, Greece is relatively small compared to the growth drivers in the Eurozone, which are strong.
The Problem with the Greek BailoutWhat the Greek crisis has shown is that European leaders in Germany and Scandinavia have their heads properly screwed on, but they are not yet a majority of EU opinion.
The EU bureaucracy simply gave in far too easily to Greece's first demand for a bailout, then suggested further bailouts for the entire Mediterranean littoral, all of which had over-expanded their governments on the back of low interest rates in the first decade of the euro.
Now reality is returning rapidly to the discussion.
In fact, I'd say given recent developments in Italy the probability of a breakup is as high as 40%.
Indeed, if a country as small as Greece or Portugal were to default or abandon the euro, the effect on the Eurozone would be manageable. The debts of those countries are too small to make more than minor dents in the international financial system, and they represent too small a share of the Eurozone economy for their departure to have much impact.
The psychological effect of their departure would be considerable - if only because Eurozone leaders have expended so much money and effort to bail them out. However, devastated credibility among the major Eurozone leaders is more of a political problem than an economic one.
But now that the markets' focus has moved to Italy and Spain, the Eurozone is really in trouble.
Asking for TroublePart of the problem is that in arranging the partial write-down of Greek debt, authorities made it "voluntary," thereby avoiding triggering the $3.8 billion of Greek credit default swaps (CDS) outstanding. Of course, this caused a run on Italian, Spanish, and French debt, as banks that thought they were hedged through CDS have begun selling frantically, since their CDS may not protect them.
Honestly, how stupid can you get! I don't like CDS, but fiddling the system to invalidate them is just asking for trouble. And so far, the only effect has been a considerable increase in the likelihood of a Eurozone breakup.
Italy, Spain, and France are too big to bail out without the European Central Bank (ECB) simply printing euros and buying up those countries' debt. However, if the ECB adopted the latter approach, hyperinflation would almost certainly ensue. Furthermore, the ECB itself would quickly default, since its capital is only $14.6 billion (10.8 billion euros) - a pathetically small amount if it's to start arranging bailouts.
Of course, Europe's taxpayers could then bail out the ECB by lending the money needed to recapitalize the bank, but a moment's thought shows that the natural result of such a policy is ruin.
So what would a breakup of the Eurozone look like? Basically, there are three possibilities.
Portugal is still in trouble, Spain will be back on the coals after its Nov. 20 election, and if I were a bond trader, I would be shorting Belgium, which has serious deficit and debt problems, runs for months at a time without a government and is in some danger of splitting apart into its French and Flemish bits.
A bailout package for Greece has been agreed to, but the Greeks are struggling to form a government to implement it. And yields on Italian bonds are moving ominously higher, rising above the 7% that some think marks a point of no return.
So does this mean that a euro breakup and a Eurozone economic collapse are inevitable?
In fact, of all the European nations in crisis, only Italy has the potential to take down either the euro or the global economy.
Just take a look for yourself.
Getting Rid of GreeceAt this point, Greece obviously is a goner as far as the Eurozone is concerned.
Really, it should have been pushed out 18 months ago, when it was first revealed that the country falsified its figures to gain acceptance into the Eurozone in the first place. Its government deficit at the time was 12% of gross domestic product (GDP) - not the 6% it claimed, let alone the 3% it had agreed to abide to on its entry.
French President Nicolas Sarkozy already has admitted it was a mistake to let Greece into the Eurozone, because the gap between its economy and the well-managed polities of Northern Europe was much larger than the area's other members.
Former communist countries like Slovenia and Slovakia have integrated quite smoothly into the Eurozone, because their governments and people had already acquired the discipline necessary for membership. But since its entry into the European Union (EU) in 1981, Greece has lived on handouts, and raised its living standards artificially to a level two- or three-times the market value of its output. Exit from the euro is inevitable; Greece's problem cannot be solved in any other way.
In fact, the sooner Greece exits the euro, the better. As it stands now, it's rapidly becoming impossible for Greece to get its debt down to a manageable level, since the country's official debt has been deemed untouchable.
Once the EU leaders acknowledge the need to remove Greece from the Eurozone, the country's exit will be neither difficult nor damaging. The process of recreating the drachma will be similar to that followed in Slovenia, Croatia, and other ex-Yugoslav republics which abandoned the Yugoslav dinar in the 1990s.
Inevitably, Greece will have to default on much of its debt, but it's already doing that now.
So if it's handled correctly, Greece should not be a problem for the Eurozone or the world economy.
The PIIG PenThe other smaller Eurozone weaklings aren't major problems, either.
I believe it does.
Why else would the European Union have bent over backwards to "save" a member nation that: A) Accounts for 2.01% of the EU by trade volume; and B) Would essentially be like letting Montana go out of business - no offense to Montanans or Montana!
More to the point, if things really were under control, why would European Central Bank President Jean-Claude Trichet say that risk signals for financial stability in the euro area are flashing "red" as he did following a meeting of the European Systemic Risk Board in Frankfurt?
The short answer: Because he knows what the European banks are desperately trying to hide from the rest of the world - that there are still enormous risks and they're even more concentrated now than they were in 2008 at the start of the financial crisis.
Truth be told, Europe was in the news for most of 2010 - but for all the wrong reasons. A series of financial panics hit the weaker Eurozone countries hard, forcing draconian austerity measures in many countries and igniting concerns that the euro may not survive as a currency.
Against such an unappealing backdrop, it's no real surprise that any positive information tends to be overlooked.
And that's truly unfortunate, since for much of Europe - and for its stock markets - 2011 should be a pretty good year.
To understand what's really happening in Europe, please read on...
While Germany's exports continue to surge, its consumers are refusing to spend. The government has failed to raise wages or encourage consumption and says it has few plans to do so.
"By cutting its budget deficit and resisting a rise in wages to compensate for a decline in the purchasing power of the euro, Germany is actually making it more difficult for other countries to regain competitiveness," billionaire investor and cofounder of the Quantum Fund George Soros said in a speech on June 23 in Berlin. Germany is "the main protagonist" for Europe's debt crisis, he added.
Germany's economy - four times more reliant on exports than is the United States - posted the highest second-quarter growth in the Eurozone, growing by 2.2% in the second quarter from the first. The country is headed for about 9% growth this year.
That began to change in the 1950s, with the advent of international and global mutual funds, and access further expanded over the next three decades with the introduction of single-country closed-end funds. Today, thanks to the recent explosion in exchange-traded funds (ETFs), investing in overseas stocks is now almost as easy as targeting a given market sector here at home.
In fact, although it has been a mere 17 years since the first ETF began trading in the United States (in 1993), the most recent count finds more than 290 international, regional and foreign-country-focused funds listed on the various U.S. exchanges - enough to entice any investor with even a modest yen for overseas portfolio exposure.
More good news out of Europe, better-than-expected new home sales, and the latest of a solid second-quarter earnings season has helped resuscitate the animal spirits that were missing in action since the spring.
Stocks rose past some key milestones in their historic July over the past week, pushing the Dow Jones Industrial Average just barely into positive territory for the year. It was a very professional, low volatility rally this week, a welcome change from the intra-day dramatics that had put everyone on edge lately.
What has really changed from the point of view of government policy or corporate results? Nothing and everything.
The tests results were released Friday with seven banks failing, but analysts say many more institutions could have failed if the tests simulated a sovereign default. Testing regulators from the Committee of European Banking Supervisors (CEBS) decided against testing securities held in lenders' banking books, where sovereign debt is held and only written down in the case of default.
"The long awaited stress tests do not seem to have been that stressful after all," said Gary Jenkins, an analyst at Evolution Securities Ltd. "The most controversial area surrounds the treatment of the banks' sovereign debt holdings."