At least the ads are over
November 4, 2020
“The Associated Press will not predict a winner of the presidential election. It will not even name an apparent or likely winner. The A.P. will make the call only when it is certain — just as it has in every U.S. election since 1848, when Zachary Taylor won the White House.”
“Over? Did you say ‘over’? Nothing is over until we decide it is!” -Bluto
–On a Biden victory, I thought Russell should get hit relative to SPX. Since that’s what is happening right now, RTYZ0 -37.00 and ESZ unch’d, I guess I will fit the narrative to my original theory and figure that Biden has prevailed. However, I can’t quite account for the bond rally besides noting that positioning seemed heavily weighted to the short side (which will ultimately prove out, in my opinion). Treasury refunding announcement today, as a small reminder of massive supply.
–The seller of 50k TYZ 138/137ps delta neutral first thing yesterday morning has a nice trade with TYZ 138-24 vs settle of 138-03. Likewise the previous buyer of 50-60k TYZ 139/138/137.5 put trees for 3 to 5 a week and a half ago appears to have pegged the market with a current quote of 18/20 vs 138-23+. Finally the seller of 45k in a couple of clips of TYF 136.5/139.5 strangle at 44 and 40 has come back from a deficit during the day yesterday to victory this morning, with a mid-market of 35. Vol has been pummeled with TYZ 138.75^ 1’00/1’02 vs settlement of atm 138^ yesterday of 1’20. The curve is flatter this morning, having gone into election day with most measures near the high of the year.
–2020. It’s not over yet.
60/40
November 1, 2020 – Weekly comment
There has been a lot of talk recently about the future of the 60/40 portfolio mix. The breakdown of that particular strategy was on vivid display on Friday, the last trading day in October. On the month, SPX fell from 3363.00 at the end of September to 3269.96, a decline of 93 points or 2.7%. The US treasury ten year note yield went from 68.5 bps to 85.4 bps, a rise of just under 17 bps, which represents a 24.7% increase in the yield. TYZ0 had the lowest settlement since early June at 138-07 on heavy last-minute end-of-month rebalancing volume.
Since the end of 2007, the onset of the Great Financial Crisis, there have been very few months when yields rose while stocks fell. I have taken data from Bloomberg, available on request. Over 156 months, in only 16 months, about 10% of the time, was SPX down over 1.5% accompanied by a rise in the ten year yield. The average yield increase on these occurrences was 13.6 bps. However, of these 16 cases, the percentage change in yield is the greatest in the current month. Of course, it makes sense, as most of the time, yields on the ten year were above 2%. It’s only this year that we’ve had yields under 1%, and now the market perceives that as a strange ceiling of some sort.
Obviously, when the yield is above 3%, as it was the last time this happened in October of 2018, an 8 bp move from 3.06% to 3.14% isn’t that big of a deal, although SPX fell 6.9% that month. This was the time that the Fed was hiking, both in terms of raising the Fed Fund target, and in terms of increasingly paring back its balance sheet. The beginning of October is when Powell famously said “we’re nowhere close to neutral” at the same time the taper program was ratcheted up to $50 billion per month from $30 billion and $40 billion the previous two quarters. The last straw. SPX fell 6.94% and the ten year yield rose 8.2 bps to 3.144%. This period in Q4 2018 led to an about-face in 2019. The Fed to the rescue. From its own blunder.
Let’s look at the other two times the percentage change in yield was closest to the current with SPX down 1.5% or more. In June of 2013, SPX had fallen exactly 1.5%. The ten year yield went from 2.13% to 2.49%, the largest jump in terms of bps, a total of 36. The percentage change in yield was 16.8% (smaller than the current experience). What was the catalyst? Why it was Ben Bernanke of course, who sparked the taper tantrum in May 2013, throwing markets into a brief tailspin as what was considered to be a QE promise had the rug pulled from under it. The other episode was October of 2016. SPX fell 1.94%, with Hillary expected to handily win the election. Sound familiar? The ten year yield increased that month from 1.595 to 1.826, or 23.1 bps, which translates to a percentage increase of 14.5%. Of course, we now know the outcome for stocks post-election: 14 out of 15 months of gains, with only March of 2017 registering a -4 bp blip.
Are there conclusions to be drawn about the portfolio mix? Nothing definitive from as cursory a study as this. The intuitive suspicion that many analysts have voiced is that bonds at sub-1% yields don’t provide protection, or even a thin cushion, for one’s stock portfolio. This limitation is more keenly acute given the Fed’s repeated opinion that negative short term rates are not an appropriate policy response for the US economy. That point was further expanded upon by former NY Fed President William Dudley, who helpfully told BBG on October 28 that the Fed was nearly out of firepower. “It [the Fed] can even take interest rates negative (a move that Fed officials have so far rejected). But this misses a crucial point. Even if the Fed did more – much more – it would not provide much additional support to the economy.” Hence the continued Fed pleas, even from the sidelines, for fiscal measures to plug the holes that are still leaking from covid.
In a nod to the perceived shortcomings of bonds as a safe counterweight to equity market volatility, some have allocated more to precious metals, or to bitcoin, or even to the biggest cap tech stocks as a store of value. This of course, only increases pressure on the Fed to buy more treasuries.
This is when you run for the cover of very short maturities, not thinking that capital gains or coupon payments do anything for you. Simple capital preservation. As my friend Larry used to say, I don’t want the cheese anymore, just help me get my head out of this trap.” Of course, even that course of action is not so attractive when the Fed is more or less shouting from the rooftops that it wants a cheaper dollar.
This is the big week: Election day, Treasury refunding announcement, Fed meeting, Employment Report.
OTHER MARKET/ TRADE THOUGHTS
Note that nearly all measures of the curve are at or near the highs for the year. 2/10 closed Friday at 71.3, a new high. 5/30 closed 1.264, within a couple of bps of the year’s high. Red/gold euro$ pack spread settled 60 bps, a couple bps off the year’s high of 62 on June 5. Another old trading rule: when a market goes into a big number or event and is at an extreme level, it usually continues that trend.
Good luck this week!
| 10/23/2020 | 10/30/2020 | chg | ||
| UST 2Y | 15.7 | 15.2 | -0.5 | |
| UST 5Y | 37.7 | 38.1 | 0.4 | |
| UST 10Y | 84.0 | 86.5 | 2.5 | |
| UST 30Y | 164.5 | 164.5 | 0.0 | |
| GERM 2Y | -75.8 | -74.4 | 1.4 | |
| GERM 10Y | -57.5 | -62.7 | -5.2 | |
| JPN 30Y | 64.0 | 64.3 | 0.3 | |
| EURO$ Z0/Z1 | -1.5 | -0.5 | 1.0 | |
| EURO$ Z1/Z2 | 10.0 | 10.0 | 0.0 | |
| EURO$ Z2/Z3 | 18.5 | 17.5 | -1.0 | |
| EUR | 118.62 | 116.47 | -2.15 | |
| CRUDE (active) | 39.85 | 35.79 | -4.06 | |
| SPX | 3465.39 | 3269.96 | -195.43 | -5.6% |
| VIX | 27.55 | 38.02 | 10.47 | |
When bullish news failed
October 30, 2020
–I’m not exactly sure where I heard this trading rule, I think it’s from Richard Dennis, but I have never forgotten it: “When bullish news comes out and the market doesn’t go up, it’s bearish.” Yesterday’s tech earnings all looked pretty good. Large revenue increases, earnings beats. But Nasdaq futures almost immediately broke and haven’t recovered, at time of this writing NQZ0 is 11120, down 222.75. The dark cloud was slowing i-phone sales.
–Yesterday mostly consisted of a torrid rally in stocks in front of earnings, which translated into further declines in bonds. Ten year yield rose 5.2 to 83.3, and bonds +4.8 to 1.612%. Vol was higher across the board, but most notably in US (bond) contract, with a new recent high in Jan vol at 11.4. The atm 174^ settled 6’12, having been 5’32 on Tuesday.
–Curve was steeper, as near contracts are pegged by the Fed. 2/10 closed 68.2, up 5 bps on the day and testing the recent high just above 69.
–There continues to be decent size buying in Blue March midcurves: +20k 3EH 9937/9925p spd for 4.0, settled there ref 9944, and a buyer of 9937/9900p 2×3 for 15.5, settled 14.75. The 9937p added 27k new open int, now up to 135k.
–Attached is a chart of FV vs US 1-month vol. The long end has become suspect due to its failure to rally on stock breaks. I think the relative outperformance of bond vol underscores this concern. As many have already noted, bonds might not do anything to cushion bone-rattling equity losses. But gold isn’t helping either…languishing around 1875.
–For your Halloween viewing pleasure, here’s a short from Disney in 1929. (The “crash” was Oct, 29, 1929). Scary!
https://www.history.com/this-day-in-history/stock-market-crashes
Image below shows 3m FV vs US vol. The lower panel shows the spread is near recent high.
Tech giants report today
Oct 29, 2020
–Yesterday the market got a taste of what might happen without a significant new stimulus package to counteract covid lockdowns. DJIA was -3.4%, SPX -3.5% and Naz -3.7%. Fixed income initially rallied as stocks fell, but the move fizzled with yields ending unch’d to a shade higher. Tens ended +0.3bp to 78.1 at the futures settlement. Not much of a reaction to the 5yr auction; today brings $53 billion in sevens. However, treasury vol was better bid, especially in the long end. USF 175 straddle settled on Tuesday at 5’32 vs 175-14, yesterday it settled 5’50 with futures close to unchanged at 175-12. (10.4 vol). A stark reminder that bonds may do nothing to save your stock portfolio.
–Tech giants AAPL, AMZN, GOOGL and FB report earnings after the close today. For economic releases, Jobless Claims expected 770k and GDP expected +32%.
–Possible boost to SOFR futures and ERIS SOFR swaps as a large asset manager reportedly swapped the floating leg on a massive number of swaps from libor to SOFR.
–On Oct 20, I mentioned the reversal pattern in DJ Transports, which on the 19th had made a new all-time high 12000.19 and then closed significantly lower. I thought it was a clear reversal signal, but the very next day it made a new higher all-time high at 12013.69. Since then it has traded lower, with a plunge of 4.25% yesterday to 10945.62, outpacing other indices. Initial target just below 10000.
Orange whip?
October 28, 2020
–Stocks lower again this morning, with analysts blaming the surge in covid cases. As Dr Ngozi Ezike, Director of Illinois Health, explained in April, “If you were in hospice and had already been given a few weeks to live, and then you also were found to have COVID, that would be counted as a COVID death. It means technically even if you died of a clear alternate cause, but you had COVID at the same time, it’s still listed as a COVID death.” Similarly, if a momentous upcoming election, complete with urban rioting, gives stocks the jitters, it’s still listed as Covid. https://week.com/2020/04/20/idph-director-explains-how-covid-deaths-are-classified/
–It’s 33 degrees this morning in the Chicago area. Governor Pritzker decreed yesterday that indoor dining will be forbidden, but outdoor dining is ok. State troopers will enforce the law. Who wants an orange whip?
–We all know that the US banking sector has severely lagged the broader market. But you know what’s an even a bigger dog than US financials? European banks, expressed by SX7E, euro bank stocks. SX7E is approaching the March lows today.
— Rather boring Tuesday in rates. Once again yields eased a bit with tens down 2.3 bps to 77.8. The curve flattened with 2/10 in 2.3 bps to 63.1.
–$55 billion in 5’s today. According to twitter, “The Federal Reserve owns 22% of all marketable [treasury] securities, a new record.” They’re going to have to step up the buying if they want the 20% level to hold….
–It’s OXI day.
Modest FI unwind
October 27, 2020
–A pullback in stocks proved enough to spark short covering in fixed income, along with exits of long curve trades. Open interest declined in FV, TY and US. DJIA -2.3%, SPX -1.9% and Nasdaq -1.6%. Tens fell 3.9 bps to 80.1. 2/10 eased 3.3 to 65.4. Trading in rate futures/options was light. However, there was buying of about 10k EDZ1 100c for 3.0 (settled 2.75 vs 9977). And a buyer of 10k 3EH 9937/9912/9900 put tree for 4.5 (settled 4.25 vs 9946.5). Lower vol in treasuries, as the seller of TYF 136.5/139.5 strangle added another 16k to his sort, this time at 40 vs 44 last week. It settled 40. So ten year vol slips a couple of tenths, even as VIX firms and holds above 32, highest since early Sept.
–Today’s news includes Durables expected +0.5, with Capital Goods Orders Non-def ex-air at +0.5 from +1.9. Consumer Confidence expected 102 from 101.8. Treasury kicks off auctions with $54 billion in twos, followed by similar amounts of fives and sevens on Wed and Thursday. Thursday also features post-close earnings reports from tech giants AMZN, AAPL, GOOGL and FB.
–Interesting comment from BBG’s Tracy Alloway this morning regarding compressed spreads on corporate debt courtesy of the Fed’s actions and jawboning: “As analysts at JPMorgan Chase point out, the interest rate sensitivity of the investment-grade market has jumped 56% since March 23, and is now at a record high of $7 billion per basis point, meaning prices could shift by $7 billion for every one basis point move in yield. No one expects a sharp jump in interest rates any time soon, but the fact that the Fed has increased the market’s sensitivity to interest rates while making bond ETFs even bigger means the central bank has sown the seeds of a potential future dislocation in its efforts to fix the current one.” Imagine a contested election which results in divided power and further delays/dilutes fiscal stimulus plans, shifting the burden right back to the Fed…
Eurodollars project a hike…at the NEXT election
October 26, 2020
–Yields fell slightly Friday with tens ending down half a bp to 84. The eurodollar curve in the first five years was -0.5 to +1.0. Trade was light.
–EDZ0/EDZ1 settled down 1 at -1.5, and is the lowest one-yr calendar on the curve. Spreads steepen from there until the peak, where EDU’24/EDU’25 and EDZ’24/Z’25 are both 26.5. Four years from now is where the ED curve prices ‘certainty’ of a single Fed hike, and it will be election season again!
–ESZ and NQZ are currently close to testing last week’s (Thursday) lows. Those lows are 3402.50 in ES and 11511 in NQ, now 3418 and 11562. Whether covid or election related, breaks of those lows will likely see rapid follow-through.
–Bitcoin futures are again above 13k, currently up modestly, while gold and silver are lower.
–Link below relates to Credit Risk Transfer securities issued by Fannie and Freddie, a $45b market. These securities transfer the risk of mortgage non-payment from the agencies to investors, who are now seeing the market languish. Fannie stopped issuing at the start of Covid although Freddie has resumed. FHFA director Calabria wants to reduce capital relief the agencies receive by issuing these CRTs.
https://blinks.bloomberg.com/news/stories/QIS4HGT0AFB7
Removing Preemptive Accommodation
October 25, 2020 – Weekly
Lael Brainard gave another speech on Wednesday, outlining the macro situation since the onset of COVID. She said housing and autos rebounded strongly, “a welcome reminder of the power of monetary accommodation” but that many service sectors have come back only about 60% from the March/April plunge. She therefore calls for targeted assistance and, echoing other Fed officials underscores the necessity of fiscal aid, which again fell short of Congressional agreement last week. She notes that in the coming year inflation is likely to exceed 2% in yoy comparisons as March and April data fall out, but that the Fed will stand down. About the new Fed framework with respect to employment, she said:
It [the new framework] commits that the Committee will aim to eliminate shortfalls of employment from its maximum level, rather than the previous reference to deviations, which could be in either direction. By eliminating the rationale for removing accommodation preemptively when the unemployment rate nears estimates of the natural rate in anticipation of high inflation that is unlikely to materialize, the new framework will avoid an unwarranted loss of opportunity for many Americans. The broad-based and inclusive definition of maximum employment calls for a more comprehensive assessment of areas of slack in the labor market, such as the disparities in employment outcomes I discussed earlier.
The potential problem is, if inflation does materialize and the Fed sits idle, it may also create lost opportunities and hardship for households. Powell, in testimony made prior to Covid, often said the Federal Reserve “stays in its lane” regarding the dual mandate of maximum employment with stable and low unemployment. There’s a lot of room for swerving in the above excerpt, with possible unintended consequences. This is like the 85 year old man driving his pride-and-joy 1980’s Cadillac Sedan de Ville down the freeway with the left blinker on as he casually drifts to the right. Clearly, the Fed has pegged the short end. However, this week tens rose nearly 10 bps to 84 bps, and the thirty year bond jumped nearly 12 to 1.645%. While the ten year yield has not surpassed the spike in early June at 89.6, the 30-yr did slightly exceed the June 5 peak of 166.7 to hit 167.7 this week. Also worth noting is that both 2/10 and 2/30 exceeded June’s highs of 68 and 145 by reaching 70 and 152 on Thursday. Clearly the longer end is where the action is. However, option activity suggests that it will be tough to get through the 1% yield in the ten year. For example, on Tuesday vs 138-23 in TYZ, there was a buyer of 50k TYZ 139/138/137.5 put trees for 3 and just higher. (+1/-1/-1). Max value at expiration is between the 138 and 137.5 strikes. Currently, the 137.5 strike equates to about 93.5 bps in cash tens. Downside breakeven (ignoring the futures hedge and assuming a price of 3/64) is 136-17+. There was also selling later in the week of TYZ 137/140 strangle at 22 to 23, and TYZ 137.5./140 strangle at 29. On Tuesday there was a block seller of 31k TYF 136.5/139.5 strangle at 44. All of which express a view that upside yields are capped in tens… at least for the time being. In TYZ, the 140c has maximum open interest of any strike at 99k, while on the put side it’s the 138 strike at 186k, followed by the 137.5 at 151k and the 137p at 147k. TYZ has 3.18 million open.
Settles vs TYZ 138-11+ TYZ 139/138/137.5 p tree 10, TYZ 137/140 strangle 21, TYZ 137.5/140 strangle 29 and TYF 136.5/139.5 strangle 42.
Brainard’s testimony suggests USD softness, although structural problems with EUR, GBP and JPY are all apparent. CNY has consistently rallied vs USD, going from 7.17 on May 27 to 6.6868 Friday. On June 5, as UST yields had hit a high on the strong employment report, CNY was 7.08. Where USD has shown consistent weakness is against bitcoin and gold. In fact, bitcoin, now at $12998, is approaching the spike high set in June 2019 of $13851. Bitcoin priced in some other currencies is already slightly through the 2019 high, for example when priced in yen. Of course. in TRY and ARS bitcoin is at all-time highs. When priced in gold, bitcoin is still somewhat below the 2019 high. The June 2019 high in gold was 1439, and it’s now 1902. I suspect that when and if bitcoin is able to surpass this 2019 peak, it will provide more of an indication of stress in the global financial system. At least, I will make that unsubstantiated claim, which seems to be the style these days.
What we’re seeing is the fight for dominance between the physical and the digital (although there are so many derivatives on gold that the distinction is blurred). In any case, physical commodities currently are outperforming outside of energy, as the store of value attribute of fiat currencies erodes. In any event, value is not being held by fiat currencies as global central banks become more activist.
Election is next week. This week the treasury auctions $54b 2-yrs, $55b 5-yrs and $53b 7-yrs starting Tuesday.
OTHER MARKET/ TRADE THOUGHTS
Once again, there are warnings about stocks being overvalued, notably Jeremy Grantham saying the bubble will burst in months if not weeks. John Hussman, while currently neutral, says the Fed has sown the seeds for a financial implosion. The election could easily be a catalyst, though there will likely be another large stimulus package passed post-election. On a blue sweep I am inclined to sell Russell vs buy SPX, or buy SPX calls vs short Russell. On a Trump victory with Republicans holding the Senate I would be inclined to buy fossil fuel companies vs green energy.
| 10/16/2020 | 10/23/2020 | chg | ||
| UST 2Y | 14.3 | 15.3 | 1.0 | 15.7 wi |
| UST 5Y | 31.7 | 36.8 | 5.1 | 37.7 wi |
| UST 10Y | 74.2 | 84.0 | 9.8 | |
| UST 30Y | 152.7 | 164.5 | 11.8 | |
| GERM 2Y | -77.5 | -75.8 | 1.7 | |
| GERM 10Y | -62.2 | -57.5 | 4.7 | |
| JPN 30Y | 61.6 | 64.0 | 2.4 | |
| EURO$ Z0/Z1 | -1.0 | -1.5 | -0.5 | |
| EURO$ Z1/Z2 | 8.0 | 10.0 | 2.0 | |
| EURO$ Z2/Z3 | 14.5 | 18.5 | 4.0 | |
| EUR | 117.18 | 118.62 | 1.44 | |
| CRUDE (active) | 41.12 | 39.85 | -1.27 | |
| SPX | 3483.81 | 3465.39 | -18.42 | -0.5% |
| VIX | 27.41 | 27.55 | 0.14 |
Breakout?
October 23. 2020
–This comment written pre-presidential debate.
–At futures settle I marked ten year yield at 84.4, up 4.7 on the day. Half hour before cash close it had pressed higher, to 86.5. On June 5, the high yield was 89.6. The curve steepened across every measure. 2/10 up to a new high on the year 69.1, +4 bps. 5/30 128.6, up 2.5 to 128.6, also a new high for the year. The only laggard is red/gold euro$ pack spread which rose 3 bps to 59.25, although it was 61 late in the session. (chart attached). The high on June 5 was 62 bps and in March was 61.625. Recent history would suggest it all fades from here, as follow-through in all markets just hasn’t happened. However, if this is truly a breakout then gains may come very rapidly.
–Treasury vol remains subdued. There was a seller of 4-5k TYZ 137.5/140 strangle at 29 early, followed by a sale of 6500 TYZ 137/140 strangle 23 to 22. Settles were 31 in the former (7 and 24) and 23 in the latter (7 and 16). Recall the 50k TYZ0 139/138/137.5 put tree bought from 3 to 5, is short that 137.5 strike and more shorts have been added there. The tree settled 7, but a push below the 138 strike may cause some discomfort. Option activity thus far suggests limited scope for a yield surge. However, look at grains…
I would also note that the BBG Commodity Ag index is at its highest level since June 2019. Do beans lead bonds? Copper is well above 2019 levels.
Brainard looks past next year’s inflation rise
October 22, 2020
–For a while, market zigzags were all about the imposition or removal of China trade sanctions. Now it’s all about stimulus, and Trump’s comment late yesterday that he didn’t think an agreement was going to happen caused selling pressure in stocks (which has somewhat abated as of this writing).
–Yesterday, the curve continued its steepening trend, with 2/10 up 1.2 bps to 66.4 (testing the year’s highs just above 68) and 5/30 up 1.2 as well, to 127.3. Brainard gave a speech yesterday and in one section said she monitors many indicators of inflation. Worth noting then, that the 10 year tip breakeven rose yesterday to 174.3, near the high set in the beginning of the year at 180. In late March I marked that spread as low as 50 bps, which brings up another comment from Brainard: “While inflation may temporarily rise to or above 2 percent on a 12-month basis next year when the March and April price readings fall out of the 12-month calculation, my baseline forecast for inflation over the medium term is for it to remain short of 2 percent over the next few years.” We almost certainly will have a surge in inflation early next year due to yoy comparisons. Of course, she also noted that the Fed, according to the new framework, will not hike until 2% is surpassed and appears sustained.
–One other comment by Brainard: “Interest-sensitive sectors such as residential real estate and autos have rebounded strongly—a welcome reminder of the power of monetary accommodation, especially when coupled with necessary fiscal support.” In other words, the Fed still has the power to bring consumption forward. But what if it’s not sustained? Or if fiscal handouts are reduced?
–Yields rose slightly at the long end, but vol was muted.
–The attached chart of solar energy ETF TAN shows an interesting decline of 8% yesterday. One BBG chat noted that perhaps it’s a signal that Biden’s lead isn’t as certain as polls indicate. Maybe a stretch, but there’s sure to be some energy market volatility in the aftermath of the election
