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By Timothy Strauts | 09-22-2011 05:06 PM

Volpert: Euro Debt Crisis Contagion a Concern

Unaddressed governance issues could create significant economic growth problems in the eurozone, ultimately affecting U.S. assets, says the head of Vanguard's Taxable Bond Group.

Tim Strauts: I'm Tim Strauts at the Morningstar ETF Invest Conference. With me today is Ken Volpert, head of Vanguard's Taxable Bond Group.

Thanks for being here, Ken.

Ken Volpert: Thanks, Tim. Glad to be here.

Strauts: Well, just yesterday Ben Bernanke announced his Operation Twist program. What does this really mean for investors, and really, can you explain, what is Operation Twist?

Volpert: So, Operation Twist is where the Fed sells--the Fed owns a lot of Treasury securities--so it's going to sell the short Treasury securities inside of three years, about $400 billion, and it's going to put that money out longer. So, it's going to buy a lot of six-year out to 10-year paper and then also a very large percent, about 30%, is going to be out in the 20- to 30-year part. So, that's a much larger percent than the market expected. So, what we've seen is that long-term Treasury yields have come down significantly. The 10-year has also come down a fair amount as well because they are putting a lot of money in that part of the curve as well.

So, I think that's what Operation Twist is about, but yesterday's announcement was interesting also because the Fed announced that they are going to be redeploying or reinvesting the mortgage principal and interest back into the mortgage market. ... Remember they bought well over $1 trillion of mortgages a couple of years ago, 2008 and 2009, so what they're going to be doing with that principal and interest is reinvesting that back into the mortgage market instead of in Treasuries. So, the mortgage market actually has gotten a very strong bid and has performed really well even compared to Treasuries. So, that's another part.

And the last thing is they made a statement about the downside risk in the economy as being significantly large or significantly great, and the last time they mentioned that it was just, that there was downside risk. Now they talked about significant downside risk. And so the market--a lot of the decline that we're seeing in rates is actually because it seems like the Fed is pushing out further and further and further the recovery and is concerned about some more global kind of risks like the eurozone problems, etc., that are going to potentially cause our economy to grow much more slowly in the future.

Strauts: Well moving on to the euro, it sure seems that the European debt crisis only gets worse by the day. Most people are saying that Greece is definitely going to default.

Do you think that's true and how does Greece and Europe affect investors' fixed income holdings?

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