May 4. Bearish sentiment shift in bonds/curve
–Friday capped a big week in interest rate markets, with the curve steepening to new recent highs and implied volatility surging. Almost all eurodollar calendar spreads made new highs. For example, the red/gold euro$ pack spread rose 4.375 Friday to 131.375, up nearly 12 bps from the previous Friday. 2/10 treasury spread ended the week at 151.3, up over 11. The peak one-year eurodollar calendar is Dec’15 to Dec’16, which closed at 79.5, up 3 on the day and 9 on the week. Implied vol rose sharply on Friday as futures sold off. Previously, sell offs in the futures had been associated with steady to softer vols. Fear has now shifted to the downside. For example, one week ago I marked June US vol at 10.8, versus 13.4 on Friday.
–Sentiment has very clearly changed. The catalyst might have been the sell off in German bunds. There is also concern that any hike by the Fed may spur volatility. For example, a monetary policy meeting held by China, Japan and South Korea concluded, “In an uncertain environment of global economy, monetary policy settings should be carefully calibrated and clearly communicated to minimize negative spillovers” (Reuters). In other Asian news, Bloomberg reports that S Korea is closely monitoring the yen/won rate as Korean exporters have lost market share to Japan.
–Big week ahead with the Employment report on Friday. Last week’s Jobless Claims were at the lowest level in 15 years, so the market may already be discounting a strong payroll report. However, note that the Atlanta Fed’s GDP Now forecast for Q2 is only +0.8 as of May 1. Today’s news include Factory Orders, expected +2.1%.
May 1. Raising cash
–Yields pushed a bit higher yesterday, led by the five year (+1.3 to 143.5) and green euro$ pack which fell 4.25 bps. There were some large trades which indicate a sentiment change regarding both interest rates and risk in general. And by risk, I am not specifically talking about ‘risk assets’ which might have a tendency to support treasuries if they fall, but also risk as related to the broader idea of liquidity (and lack thereof).
–Option trade was heavy and implieds firmed from a low base. For example, there was a new buyer of 25k Blue July 9775 straddles for 35 bps. Just on the basis of possible futures movement in the next two months this seems cheap. New buyer of 30k midcurve July 9875 put, settled 9.75 with EDU6 9881.5. This trade appears to be a play for the possibility of a bit more tightening than is currently being priced. There was also a new seller of 25k July Fed Funds at 9985 and 9984.5. This trade is specifically protection/speculation on a June rate hike; risk 2.5 make 22.5…are the odds of a June hike more that 10%.
–Gold was clobbered, dropping $28. Ever had to turn in the spare change jar to get some usable cash on which to make it through the next few days? I have. And that’s what the gold move looked like…a cash raiser. I don’t know if its related, but the FT has a piece noting that the Saudis have been burning through reserves due to weak oil burning a hole in the budget. Reserves fell $20b in Feb and another $16b in March. A decline in oil revenue is also cutting demand for precious metals. Could some treasury selling be related? And could it be that stretched budgets also add to the low liquidity environment?
–ISM today expected 52.0.
April 30. BoJ downgrades outlook, Nikkei -2.7%. Can’t happen here?
–Well at least ONE of the Fed’s models seems to be working: Atlanta Fed’s GDP Now had a forecast of Q1 GDP of +0.1 and it actually came out at +0.2 (rather than the consensus expectation of 1.0%). As an aside, the Fed’s Econ Projection at the March FOMC for 2015 GDP growth is 2.3 to 2.7%.
–The FOMC acknowledged slower growth, but clings to the idea that it’s all transitory. BoJ also downgraded its outlook but refrained from additional QE; Nikkei is down 540 or 2.7% after yesterday’s holiday. Brazil raised rates by 50 bps.
–The dollar again weakened, with DXY making a 2 month low at 9468, having been at 100 in mid April. (EUR around 112 as of this writing). We’re now in an environment where stocks and bonds appear somewhat vulnerable at the same time, which makes sense, given that both asset classes had been underpinned in part by safe haven plays and the strong dollar. Beware the temptation to buy bonds just because stocks are soft. The curve steepened yesterday with new recent highs in 2/10 at 147, 5/30 up 3 at 131.8, and red/gold euro$ pack spread, which jumped nearly 6 bps to 128.375. With the market becoming slightly more circumspect about both the US economy and prospects for rate hikes, it’s the front end that will remain supported.
–On yesterday’s sell off (ten’s up 6 bps to 203.5), TY futures open interest jumped 60k or around 2%. There was new buying in both TYM and TYU 126p, on the latter for 49/64 covered from 127-285 to 29.5 in 10k. Vol was hit after the Fed, for example, as futures were lower I quoted 2EM 9837 straddle with a small 24.5 bid, but it settled 23.5. Technical signals on the long end of the curve remain bearish.
–Data releases today include ECI expected +0.6, Personal Income and Spending +0.2 and +0.5, with PCE Core expected 1.4% yoy. Job Claims expected 290, and Chgo PMI 50.0 from a weak reading of 46.3 last.
April 29. A steeper curve as the Fed whiffs?
–Though it was a light volume day, there were a couple of significant notes about yesterday’s session. The curve steepened. While 2/10 and 5/30 didn’t make new highs, they are at the tops of their respective ranges. The ten year note rose 5 bps to 197.4, in spite of a strong five year auction. New highs were made on the dollar curve. For example, red/gold pack spread was up 3.875 to 122.5, the highest since mid March. As the dollar has eased, some market measures of inflation have perked up…as mentioned yesterday the ten yr note to tip spread is above 190, new highs for the year. EUR above 110 as of this writing.
–The glimmer of inflationary impulses is likely to be downplayed today, as Q1 GDP is expected at only 1.0%. Additionally, the FOMC announcement this afternoon almost certainly will acknowledge the weakness of recent data. While the Fed probably could use this meeting to cue the market towards a rate hike, the opportunity will likely slip past. It will probably be an opportunity to pick up some cheap(er) vol. Yesterday there was a seller of Green June 9837 straddles at 24. Granted EDM6 has had a fairly controlled range in April, but in March the range was 50 bps. In any event, further steepening from reds back appears to be in the cards, and could catch many offsides.
April 28. Things rather than paper?
–Ten year yield was up less than 1 bp yesterday to 1.923, however, real yields as indicated by the 10 yr inflation indexed note continue to fall with a barely positive close of just 3 bps. The spread between the two (10yr -10yr tip) closed at the highest level of the year, 192, so inflation expectations might be increasing somewhat. In January of this year the spread averaged around 160 bps. Also, the 5yr/5yr inflation forward has surged this month from below 2% to 2.20. So if the Fed is looking for inflationary impulses prior to tightening policy, then some evidence is building.
–On the financial stability and engineering side of things, AAPL reported a surge in revenue, but also boosted plans to return cash to shareholders through increased dividends and stock buybacks. Stock buyback plan jumped from $90 to $140 billion! And AAPL will be tapping the debt markets to help fund the scheme. Corporate debt is at record levels, and Capital Spending continues to languish, so debt is being added to juice per share corporate earnings; AAPL is just another example. Does the Fed step in? It seems to me that the complaints about a lack of high quality collateral in the debt markets, and the financially engineered buybacks could both be addressed by the Fed beginning to unwind its portfolio, especially in longer maturities.
–Or, maybe this problem of increased corporate leverage will resolve itself through a gold old stock sell off as the will to pay more per unit of earnings burns itself out. ESM had a key reversal day yesterday, though not a particularly big range, with a higher high for the move, outside day and lower close. The pattern was more pronounced for the Russell…
–At the same time, gold and silver had strong rallies. An incipient move towards physical things rather than paper as the commodity bust might have run its course? Probably not, but worth keeping an eye on. In some ways, increased social stress like the Baltimore riots are also indicative of a turning point.
April 27. Bad Durables data….still a transitory slowdown?
–Another in a string of disappointing economic releases Friday, Durable Goods. Year over year ex-transportation was -1.9%. That’s a bad number. And so…yields went down, led by the reds in eurodollars, (red pack +3.75 bps), and by the five year on the treasury curve, -3.3 bps to 1.322. The ten year note fell nearly 3 bps to 1.916. Strength in US equities doesn’t seem to be diminishing the appetite for treasuries at this point. Indeed, January 2016 Fed Funds are at their high settlement for the year, 99.61 or just 39 bps, suggesting just one 25 bp hike in 2015. A friend of mine noted that even an extremely modest tightening pace of one hike this year and two in the first half of 2016 would put the funds target in a range of 0.75 to 1.00% and that a price of 98.885 (or 1.115%) on EDU16 (September 2016) appears to be way too high. This line of reasoning is logical and pervasive, especially in light of the fact that the Fed is overtly talking about lift-off. For example, Pimco is expecting the first rate hike this September. However, the Fed’s models have been lacking, their dot forecasts and projections of economic growth and inflation have constantly been revised lower. This week the BoJ is also expected to cut growth forecasts, and in the US, Q1 GDP and the FOMC announcement are on Wednesday.
–I suspect GDP will be a weak print. And we all know the reasons…bad weather, the west coast labor dispute that severely slowed port traffic, the decline in energy activity. Perhaps those factors are all in the rear view mirror now. But there still seem to be risks associated with Greece, and with China, etc.
–Treasury auctions 2, 5 and 7 year notes, Monday, Tuesday and Wed. New recent high Friday in 5/30 treasury spread above 129. The treasury curve has been reasonably well correlated with the price of oil. As time goes on, a slightly higher oil price will appear inflationary on a 3 and 6 month basis. But I think the long end of the market is starting to become more attuned to the possibility that inflation measures might perk up on several fronts, even if the economy is stagnating.
–Interesting article on ZeroHedge about LSU drawing up a possible bankruptcy plan due to budget cuts. http://www.zerohedge.com/news/2015-04-26/its-not-just-students-who-are-broke-lsu-draws-bankruptcy-plan
On the younger end of the age spectrum the obstacle is student debt. On the older end it’s health care and pensions…
April 23. Liquidity, or…more debt for old debt
-Yields rose yesterday as the ECB threw a lifeline to Greek banks with a 1.5b increase in the ELA, which stand for Emergency Liquidity Assistance. US ten year note moved in sympathy with bunds, threatening 2%; closed at 197.3, up 6 bps. The curve steepened with 2/10 posting a modest new high of 142.8 (+3.8) and red/gold euro$ pack spread up 4.625 to 118.375. The low of this year in red/gold is 103.75 which was in late March.
–Draghi is doing what he can to keep Greece in the fold and prevent the financial fall out of an exit, but the political side of the equation is much more stubborn.
–HSBC China mfg PMI came out lower than expected at 49.2, but China has already taken steps to generously increase liquidity and move rates lower, with more likely on the way, as it too, has a debt overhang. Since the beginning of March the 7-day repo rate in China has fallen from nearly 5% to 2.5%. So, China and the ECB are both continuing monetary stimulus and the US is standing against the tide. But really, just standing pat is probably all that’s necessary. However, there are still trades being placed for the possibility of a June rate hike, for example a large buyer late yesterday of EDN (July) 9937/9925 put spreads vs EDU5 9975 call…traded 30k, paid 0.5 for the put spread. More on that later…
–May treasury options expire tomorrow. On Wednesday the May 129.5 straddle settled 29, but with yesterday’s move below the 129 strike that straddle settled 45 (futures down 16/32s or 32/64’s). Even though the week has been fairly quiet in terms of news, there’s still a chance of decent movement…
April 20. Chicago baseball
–US stock averages pulled back between 1.2 and 1.6% on Friday. The curve ended a bit flatter on the day, with the ten year yield DOWN 3 bps to 184.5 and 2’s UP 2 bps to 50. So 2/10 was down 5 bps to 134.5 while red/gold pack spread fell over 3.5 to close just above 113. US economic data continues to come in disturbingly weak, with Chicago Fed’s National Activity Index today, expected +0.15. CFNAI has been negative for the past three months; there haven’t been four negative releases since late 2010. The schedule is light this week, with housing data Wed and Thursday, and Durables Friday. Earnings releases and the situation in Greece are likely to be dominant themes.
–China’s actions to stem the surge in stocks while providing additional liquidity for the real economy is another challenge. After Friday’s liberalization of short selling rules, which took some of the air out of equities, on Sunday the PBoC cut reserve requirements. From the WSJ on Sunday: “China’s central bank cut the reserve requirement on bank deposits by one percentage point, in a move to free up funds for loans to struggling companies.” The Hang Seng index fell 2% today, with Shanghai Comp -1.6%. There is also a story on ZH that says the PBoC may allow Chinese commercial banks to post some of their local bond holdings for cash loans. Layering debt over debt. Seems to be working for Greece…
–Crude oil up 50 cents this morning and holding above $57 near this calendar year high. So if, as our central bank indicated, the drop in oil prices was a net benefit to the US economy, (with Q1 GDP expected around 0), what will the impact be as oil actually rises?
–Finally, in Chicago Cubs baseball….”The woman not only caught a baseball in her beer, but then immediately recognized it was her moment, raising said beer to the sky and then chugging it down.” http://www.huffingtonpost.com/2015/04/19/baseball-beer-hero-status-yes_n_7096112.html
April 17. Tapping Credit Lines??
“Data available for the first quarter of this year have been notably weak” Atlanta Fed’s Lockhart said yesterday. The Atlanta Fed’s GDP-Now model had an estimate of Q1 GDP at 2.3% in the middle of February, which was down to +0.3% just one month later and is now +0.1. That’s a remarkable slide. So the market has squeezed out the odds for a rate hike in June, and is further lessening the probability of a rate hike this year. All near euro$ calendar spreads made new lows. June/Sept is just 11 bps and Sept/Dec settled at 15. January 2016 Fed funds settled at a new high of 99.615, just 38.5 bps. As the front end re-prices rate hike odds, the curve steepens further back. 5/30 treasury spread made a new recent high of 127 up 3.6 bps on the day. Ten year inflation indexed note yield closed at just TWO and a HALF bps.
–Reuters had a ‘positive’ article noting that companies are tapping greater percentages of their available credit: (Reuters) – U.S. banks are reporting that companies are tapping more of their credit lines to fund hiring and expand their businesses, a promising sign for the economy. Commercial borrowers are using two or three percentage points more of their credit lines than they were a year ago, reaching levels not seen since before the financial crisis was at its height in 2009…”
–“a promising sign for the economy”?? I’m not so sure that this a sign of confidence; it could actually reflect STRESS.
–However, there’s no stress in the VIX, holding steady near the year’s low at 12.7.
–Greek yields new highs, German yields new lows.
–US news today includes CPI, expected +0.2 with Core +0.1. Leading Indicators expected +0.3.
April 16. Breakout in crude oil and CAD
–Yesterday crude oil closed at the highest level so far for 2015, over $56/bbl. The Canadian dollar has pretty much the same pattern and broke out of a long term base (in futures terms). USDCAD at 122.82…looks like it could easily visit 120.
–US yields eased slightly lower with tens down 1/2 bp to 189.8 and fives down 1.7 to 132.3. The German bund continues to make new low yields, now 10 bps, with Portuguese two years flirting with zero. Greece, on the other hand, was downgraded again. US data softening further, with Industrial Production yesterday -0.6 vs expected -0.3. Today brings Jobless Claims, expected 281k, Housing Starts 1.04m and Philly Fed.
–Business Insider notes that EZ car sales are exploding higher, +13.3% yoy. So…QE is working? Or is it just that the populace understands the risks of bail-ins and of the central bank confiscating money through negative interest rate policies, so might as well buy some STUFF. Or maybe there’s a more visceral fear of the possibility of inflation down the road. Wait…that would mean that QE actually IS working.
–Japan now surpasses China as the largest owner of US treasuries. Great, that means the US doesn’t have to be as worried about China selling its reserves and roiling US financial markets. The Japanese have our back. Of course, maybe they will be hoping for reciprocation from the US as China makes additional South Sea incursions and expands its claims. Good luck.
