1994 Bond Market Collapse

Longcat1982

Longcat1982

Can anyone clue me in what went on back then? I was too young pay attention. There seems to be a lot of comparison between now and then and what could happen when the bond "bubble" collapses.

And from what I've researched, there doesn't seem to have been any significant economic crisis in 1994. Stock market was flat. Unemployment was fairly low and falling. GDP growth was steady. Only things that raised red flags were a VIX spike to 25 and the fed raising interest rates (probably cause of the collapse.)

Also, did the bond "crisis" in 1994 contribute to the Republicans taking Congress?
 
Try this:

http://money.cnn.com/magazines/fortune/fortune_archive/1994/10/17/79850/index.htm

Bacically, it was a bubble fueled by borrowed money/leverage. Remember LTCM? Investors who had $1 in the bank got $100 in loans to buy bonds because they sounded like safe bets. Then, when the FED increased the rate by 0.25% many were so leveraged they got margin calls. They had to sell bons to cover margin and this caused a greater plunge, a deleveraging.

The same will happen to this bond market but the question is, when? It will be an ugly scene with many more ruins than in the previous crisis. Many investors rely on extremely high leverage to maintain their lifestyles. This will end soon. Society has no more resources to maintain anyone's lifestyle as before.

The plunge of 1994 brought the long bond rate from around 5% to around 7%, I do not recall the exact numbers. Imagine what will happen when the rate goes from 4% to 8%.
 
I recommend reading the article in the link below:

http://www.derivativesstrategy.com/magazine/archive/1995-1996/1195qa.asp

Remember that Stan Jonas has cult status on Wall Street for his acumen as a trader of derivatives. Nassim Taleb calls him a genius , etc... He wrote this all in 1995, long before we had the credit crisis, but it seems like his suggestions would have avoided one in the sense of how positions are accounted for (and never allowed leverage to grow as it did). Obviously Wall Street didn't want what he suggested.

Jonas' view is very insightful, though I was not trading at the time, you read this article and it's very interesting how today's Market could be seen as lining up for a similar selloff in treasuries, and other instruments because of the high degree of correlation we have with the low rates. In my opinion, this time precipitating a decline in equities and high yield bonds and convertibles because the income stream from going long treasuries disappears... and so on.
 
I was in college and trading options. Almost lost my whole acct (wasn't much, about £5k) by buying puts and selling them out for a loss. I was basically fighting the rise of the stock market, I think it looked overvalued (yes was a fundamentalist then). Had maybe £1k left. Stuck it all on FTSE puts, fed announced surprise rate hike, market tanked and kept going. Cashed out way too early on the puts (had to revise for exams!), but doubled my acct to £10k.

edit: Yes, it was the surprise rate hike that caused the bond market to collapse (and the stock market with it).
 
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