July 27. The thrill is gone (in high yield)
The thrill is gone
It’s gone away for good
The thrill is gone, baby
It’s gone away for good
B.B. King – The Thrill Is Gone
–Once again on Friday, the curve flattened with 5/30 treasury spread at a new low of just under 157 bps. Red/gold euro$ pack spread settled just above its recent low of 197, down 2.75 on the day at 198.5. There has been some premium buying recently, notably Short (red) June 9800 puts covered; another 15k added Friday.
–Employment data this week, preceded by the FOMC on Wednesday. Auctions of 2, 5 and 7 year notes likely keeps the pressure on 5/30 spread in the beginning of the week.
–The most notable theme of my weekend reading concerns weakness in high yield bonds. Attached is a chart of HYG, the hi-yield ETF. As you can see, it has had a pullback this month. I haven’t done much research on this topic, so I don’t want to read too much into it, but what I do know is that Corporate Debt has been expanding, used for share buybacks rather than capex. From the Fed’s Z.1 report, Corp debt grew by 8.3 in 2012, 8.9 in 2013 and 9.3 in Q1. Taking advantage of low rates for financial engineering. In terms of debt outstanding, in Q1 Corp debt was at a RECORD $9.6T. If it was being invested in productive capacity, the economy would be humming like BB King’s Lucille. Perhaps Wednesday’s GDP report will reflect that. Perhaps not.
–The FOMC is expected to continue with its measured withdrawal of QE; not much drama associated with this meeting as there is no press conference. The high yield market appears to be taking notice. Sometimes the inflection point passes quietly, only later being assigned importance for the myriad clues that were piling up. Like AMZN’s continued losses, with the market now hesitant to provide a free pass with respect to the stock price.
–What I would note with regard to HYG and euro$’s is that one year ago June 2013, when QE reduction was first hinted, HYG was crushed, and so, of course were interest rate futures. Red/gold pack spread went from 175 in mid-May to 250 in mid June. I am not suggesting the same move is likely, but with red/gold and green/gold pack spreads at new lows, I think it’s prudent to own blue or gold midcurve puts.
