Dec 3. Dollar continues to strenghten, pressure on Thursday’s ECB meeting for QE
–US yields rose yesterday with tens up 6.5 bps to 228.2 and 30-yr rising to just over 3%. Slight steepening of dollar curve with red/gold pack spread up 2.25 to 174. Stocks rebounded yesterday, though negative divergences are still evident, for example the Emerging Mkt ETF (EEM) closed lower on the day.
–Eurozone composite Purchasing Managers Index fell to 51.1 from 52.1 in October, the lowest in 16 months. EUR is at a new low of 123.40, as pressure builds on the ECB to announce QE measures at Thursday’s meeting. Italy ten year BTP trades just over 2%, fully 1/4% lower yield than UST.
–Dollar index hit its highest level since 2009, with EUR at a new low, $/yen near 119.50 and Ruble nearing 55.0 earlier today. As a frame of reference, the ruble was trading around 35 in July.
–Large seller yesterday of Short (red) Dec 9925 straddle at 9.0 bps, in size of about 15k. Settled 9.0 vs 9920.5. Dec midcurve expiration is one week from Friday; green and blue atm straddles are 14.5 and 15.0 respectively…on a relative basis I would rather own the blue for 15 than red for 9.
–In terms of tightening expectations, I continue to watch August’15 FF contract which settled -2.5 at 99.73 yesterday, 27 bps. There are 5 FOMC meeting prior to this contract, and it only trades at a 16 bp discount to the January’15 contract. Back in September FFQ5 traded near 9950; since then tightening thoughts have been squeezed out of the market.
–Today’s new includes ADP expected 225k. Service ISM expected 57.3 from 57.1 and Beige Book in the afternoon as a summary for the Dec 17 FOMC.
Dec 1. The deflation cloud darkens
When black Friday comes, I’ll stand down by the door
And catch the gray men when they dive from the fourteenth floor– Steely Dan
Dec 1. It was a black Friday for black gold as oil plunged after Thursday’s OPEC decision not to cut production ($74 bbl to $64 at the low, in two days). The discussion has now shifted to which projects and geographical regions can stay profitable at this price, and what the impact will be on capital expenditures. According to a report by Goldman, “The Energy sector accounts for roughly one-third of S&P 500 capex and nearly 25% of combined capex and R&D spending,” I saw several articles which noted that many producers are hedged through 2015. But in a world where the financial sector has become as important to monetary policy as the goods producing sector, former buyers are experiencing a world of pain. And the Russian Ruble is at a new low, scarcely pausing at last week’s 50 level to breach 52.
–As an example of the negative linkage between oil and other financial markets, note that hi-yield ETF’s HYG and JNK both had hard tumbles Friday, and that the small cap Russell also took a late hit, dropping 1.5% on the day.
–The Swiss rejected the gold referendum which would have forced the country to hold 20% of its reserves in gold. The price, of course, plunged….but has come right back. Questions about the availability of physical supply and various repatriation efforts have perhaps put a floor under gold. Also note that EURCHF has barely budged off the 120 peg.
–In overnight/weekend news, Moody’s downgraded Japan. China PMI was soft. Also from Reuters on Saturday: “ECB Executive Board member Sabine Lautenschlaeger said on Saturday she saw little room for further easing of monetary policy despite a further fall in euro zone inflation.”
–In terms of interest rates in the US, all eurodollar calendar spreads fell to new lows. Peak one year spread is Dec’15/Dec’16 which fell 2.5 to just 91.5. Red/gold pack spread dropped 1.75 to just over 170. 2/10 treasury spread at new low 171. Ten year yield closed below 220 at 219.4; it doesn’t seem far fetched to consider 2% as an end of year target, a nice round 100 bp drop from the start of 2014.
Nov 27/28. Oil crashing.
–Significant new lows in Crude Oil in front of OPEC decision with CLF now 72.22 (Thursday morning). On Wednesday, interest rate futures pressed to new highs and are firmer today. 2/10 treasury spread fell another 2.5 bps to 172. Ten year yield eased 3 to 223.2. Nearly all eurodollar calendar spreads made new lows, with peak one year spread (now EDU5/EDU6) at just 94.5 bps. Red/gold euro$ pack spread fell almost 3 to 172. 30 yr bond yield is nearing Oct 15 closing level of 291.8; closed Friday at 294. It’s worth noting that the energy revolution in the US, which has been a strong contributor to GDP growth, is partially predicated on high oil prices. While low energy prices help support consumer spending, they probably are a net negative for capital expenditures.
–Important link from RJO 24 hour desk’s Brian DeLong on Reuters http://www.reuters.com/article/2014/11/26/us-usa-fed-yellen-idUSKCN0JA22L20141126 The title of the article ‘Yellen’s optimal model calls for rate hike this year, in theory’. The interesting part of this story is that Reuters, though a Freedom on Information request, asked for the Fed’s models, and both the request and the models are linked in the article. While we know that the market and the Fed have diverged with regard to forward interest rate policy, it’s interesting to see the Fed’s transparent response.
–Swiss gold referendum this weekend. Le Pen has called for repatriation of French gold, following a similar move by the Dutch CB. A recent Mauldin article notes that a big part of Germany’s export miracle had been due to a strong yen relative to the euro, that tide has now gone out, as the pair has gone from 100 in early 2012 to 147 now. (Reuters) – The European Commission will tell France, Italy and Belgium on Friday their 2015 budgets risk breaking EU rules, but it will defer decisions on any action until early March. All of the above point in the same direction…more problems ahead for the EU; safety in US treasuries.
Nov 26. Happy Thanksgiving
Old Turkey would cock his head to one side, contemplate his fellow customer with a fatherly smile, and finally he would say very impressively, “You know, it’s a bull market!”
–Reminiscences of a Stock Operator
–Interest rate futures continue to form a rounded bottom following mid October’s upside spike. Yesterday’s close was the highest of the month, as tens fell 4.4 bps in yield to 226.2. On October 15, as stocks were plunging, the thirty year yield was 291.8 at the futures settlement of 2pm Chicago time. Yesterday’s mark was only 5 bps away at 296.8. For the sake of comparison, fives are nearly 25 bps higher, at 158.3 vs 134.4 on Oct 15. Prior to yesterday’s 5 year auction the w/i was 160.5.
–As might be inferred from the above, all curve spreads made significant new lows yesterday. Red/gold euro$ pack spread fell nearly 5 bps to 175. (Low of the year was 169 in early October. This spread started the year at its high at 303). Red/green pack spread closed -1.5 at a new recent low of 87; low for the year was just under 81 on Oct 15. In treasuries, partially of course due to the new five year, curve spreads also made new lows: 5/10 broke below 70 to close at 68, and 5/30 below 140 to 138.5. The peak one year euro$ spread is EDZ5/EDZ6, now at a monthly low of 95.5. Late in the day there was a huge NOB block, -34856 TYH 126-09 vs +18950 USH 141-11. A large amount of the roll from Dec to March went through yesterday in all contracts.
–Oil plummeted nearly $2 bbl, CLF5 was 73.91 late, -187, as Venezuela indicated a lack of agreement on production cuts. The low for the move has been 73.22. Dec Copper broke decisively through $3 and now trades 2.96, finally on the verge of a Chinese unwind which should cause much lower prices. Disinflationary impulses continue to course through the markets.
–Plenty of data today, including Durables, expected -0.5 but +0.5 ex-trans. Jobless Claims 288k. Personal Income +0.4 with Spending +0.3, and New Home Sales 470k.
Nov 25. While implied vols ease in interest rates, more warnings about high yield are issued
–Oil retreated from early strength and was down 90 cents late to 75.61 (CLF5). OPEC meeting at the end of the week with the question of agreement on production cuts still up in the air.
–Interest rate futures started lower, but firmed during the day, notably after the strong two year auction. Ten year yield fell 1 bp to 230.5. Trades continue to favor curve roll-up strategies and softer implieds. Seller yesterday (adding) of 30k EDH6 9825p covered 9895 and EDM6 9775p covered 9870 as a strip at 18.5. Green Dec 9825 straddle settled 15.5 from 17.0 on Friday. There is continued accumulation of TYH 129c, open interest up 10k, settled 20/64 ref 126-03. However, I marked both TY and US implieds at new recent lows.
–There seem to be more articles recently warning about high yield/ corporate debt. Perhaps the issue is heightened by the Fed’s recently issued ‘Supplemental Leverage Loan Commentary’ http://www.federalreserve.gov/newsevents/press/bcreg/bcreg20141107a2.pdf
This short report warns about credit risks, noting that “…31% of leveraged transactions originated within the past year exhibited structures that were cited as weak, mainly because of a combination of high leverage and absence of financial covenants.” “….examiners noted an overreliance on borrower /sponsor base case projections when evaluating borrower performance.” While it’s positive that the Fed is addressing these issues, there has been deterioration since the 2013 report. I saw an investment bank snippet noting that Investment Grade Corp bonds have widened by 25-30 bps since late summer, and several warnings that corp debt may not be as easy to roll over, in spite of strong equity prices.
–China’s currency a bit weaker this morning on last week’s rate cut. Several commodities got a brief lift from China, but have faded. For example, Corn jumped early Friday but was crushed into the close and was lower yesterday. Copper had a short bounce but now finds itself around $3.00. Shanghai rebar contract is probing new lows. My thought is that some parts of the market are fading the thought that China can revive its flagging economy, though I would note that other base metals, (zinc, nickel) are firming up. More importantly, China, like others, has an incentive to meet Japan’s challenge of currency depreciation.
Nov 23. Tight ranges in fixed income, but curve appears ready to flatten further
–Groundhog day. For the past three Fridays the settlements in TYZ have been 126-21, 126-22 and 126-22. The last two Sunday evenings marked highs for the week, 127-005 on Nov 9 and 127-00 on Nov 16. I am sending this out on Sunday Nov 23, half an hour prior to the open, and my guess is that we’ll open near 127-00 (though I doubt that level will cap the market this week).
–It’s not just TY that trades with a decided sense of boredom. In the past three weeks the range of the red/green eurodollar pack spread (closing basis) has been just 3.5 bps, 92.125 to 89.625. No surprise then, that implied vol is grinding lower.
–Treasury curve spreads have also, of course, been narrow. However, they have quietly consolidated at the lows, as enclosed charts show. All look ready to flatten further. 2/10 is 181.4, 5/10 is 70.4 and 5/30 closed 141, which I marked as a slight new low.
5/10 treasury spread
5/30 treasury spread
Given fairly steady gains in employment, new highs in stocks that have potential to spur wealth effect spending, and foreign central bank words and actions (PBOC ease Friday) to support global growth, one would think that inflation expectations and long end yields in the US would perk up. Indeed, in reviewing global yields the US does have a relatively high yield at 2.315. With global yields low and the dollar growing ever stronger, the US looks quite attractive. French 10’s are at 1.11, so the US is more than double. Germany at 77 bps, so the US is 3x higher. Japan at 45, so the US is 5x higher. Italy is just under the US at 2.21. But Italy’s debt to GDP was 132.6% at the end of 2013 and is expected to grow to 137% this year as the latest GDP was -0.1; Italy hasn’t had growth in three years. How can the US yield be higher?
–The stronger dollar forces more price competition on US products. The fact that Japan, China and Europe are fighting to try to generate some sort of price inflation underscores the risk of deflationary pressures building in the US. The flattening curve is a clear reflection.
–ZH cited an interesting report from Barclay’s noting that wider spreads on junk bonds can be used as a sell signal in stocks. My own conclusion is that wider spreads aren’t necessarily a catalyst for weaker stocks; correlation doesn’t automatically indicate causation. In any case, it appears that junk bond spreads bottomed in June and have, since then, been making higher highs and higher lows…worth keeping in mind.
Nov 20. Fed minutes passingly reference overseas risks; Eurozone and China PMI’s underscore the danger
–Yesterday’s FOMC minutes were pretty much of a non-event. TYZ was trading 126-125 just prior to release, and, after a brief swing up and down, settled there. Yields were slightly higher on the day with the ten year up 2.5 to 234.9. Once again, ten year note to tip spread, an inflation indicator, made a new multi year low at 184.6 down 2 on the day. Many market based inflation signals are slipping heavily into the red; the Fed’s 5y forward inflation expectation index is perhaps the clearest example.
–Today’s Eurozone PMI showed a 16 month low at 51.4, while HSBC China Mfg PMI came in at 50.0, a six month low. Yesterday’s Fed minutes acknowledged risks from slowing overseas growth, but concluded that the impact was likely to be limited. It’s like George Costanza’s boss Mr Kruger, way behind on a daunting project to keep the company afloat, saying “Ah George, I’m not that worried about it…” The Fed SHOULD be worried about it.
–Dollar/yen traded nearly 119 overnight, however, the Nikkei is not blindly following the upside anymore, with uneasiness about the QE experiment (and upcoming elections) finally taking root. A related interesting note about yesterday’s FX trade had to do with a poll on the upcoming Swiss Gold referendum, which showed a decline in support of the proposal to force the country to hold 20% of its reserves in gold. Gold futures immediately dropped $20 and EURCHF managed a bounce from 120.12, but the initial reactions were short lived. Gold immediately recovered the loss and EURCHF is again knocking at the 120 door this morning.
–My bias is to be long treasury and back month eurodollar calls for another Oct 15 type trade.
–A lot of news this morning including CPI expected -0.1 and Core +0.1. Job Claims to 284k. Philly Fed 18.0 from 20.7. Existing Home Sales 5.15m and Leading Indicators +0.5.
Nov 19. Yen making new lows. Fed minutes today
–A few quick thoughts this morning. First there are a lot of odd changes in open interest, especially in ten year options, will summarize below. There was a big jump in Feb treasury option trading yesterday, notably a new scaled buyer of 10-12k TYG 126.5 straddle from 207 down to 204. Feb options expire Jan 23, so the Jan 28 FOMC is not captured, but the minutes from the Dec meeting will likely be released on Jan 7. Implied vol was lower across the board as yields edged lower. With 3 1/2 weeks to go all Dec midcurve straddles are 20 bps or below, having declined 1-1.5 bps yesterday.
–Which brings us to today’s minutes from the Oct FOMC, which had a hawkish tilt. Perhaps the minutes will reinforce the message, though a SF Fed paper from a couple of days ago suggested that monetary policy was not increasing inflation risks, which are actually skewed lower.
–Regarding CB policy and outcomes, look no farther than Japan this morning, where the yen continues to make new lows in the wake of massive QE. $/yen is 117.60 and EURJPY is 147.24 vs 146.50 late yesterday…the highest since 2008 (high of that year was 170). In spite of the forex move, Nikkei is lower this morning. The situation is unstable…go home Japan, you’re drunk. A story on ZH also notes problems in China, with iron ore at the lows of 2009, down 50% in 2014. However, the Dec Copper contract continues to hold just above 3.00 for now. (Every time it gets below $3 I expect a rapid drop to 2.50, but it always bounces).
–The big commodity story is Oil, which plunged again yesterday to trade 7425 late, just $1 off the low set last week (CLZ was 102 in July). With the slide in oil and general decline in inflation expectations, it wouldn’t be surprising to see treasury curve trades break through support areas to new lows. For now, 5/30 is holding 140 (144 close) and 5/10 remains above 70, but I think the latter will go to lower 50’s before year end.
–OPEN INTEREST: On Monday, open interest in red euro$’s jumped on light volume, for example EDZ5 OI was +100k. Apparently the SF Fed paper convinced some to pour into new longs as the idea of a hike in 2015 diminishes. However, even though the market was steady to higher yesterday, OI in red euro$’s DECLINED 190k. Possible mistake in calculations?
But even more surprising is some of the changes in WAY out of the money treasury options. TYG 103, 104, and 105 puts traded c-7 in total of about 12k…new buyer. TYH 101p settled 1 and traded 12k as well. TYZ 103 and 103.5 puts showed trades of 19k each with a decline in OI. So it appears to be some sort of roll…but why so far out? TYH 116p settled 1, by way of comparison. TYH 151.5 and 152.5 calls both added 27k to open interest.
Nov 18. Inflation measures are low, but high yield spreads may start to expand
–Light volume Monday which featured a steepening curve. Red/gold pack spread rose nearly 5 bps to 180.5. Ten year yield was up 2 to 233.6. Two year yield was lower by 1/2 bp.
— Gold is a star performer this morning up nearly $20 and over $1200, EUR has also rebounded to above 125, and oil too, is moving higher. Today’s news includes PPI expected -0.1 headline but +0.1 Core. Several analysts pointed out that one of the Fed’s preferred inflation measures, 5 year forward inflation expectations, made a new low yesterday. Not too surprising as 5/30 treasury spread is also near a new yearly low. The ten year inflation index note spread to 10y treasury is likewise at a new low just below 188. Given the plunge in commodities including oil, and corresponding strength in the USD, it’s no surprise that measures of inflation are in the dirt. Next year’s comparisons will almost certainly indicate an inflation bounce, as long as the EU can avoid a debilitating asset depreciation spiral.
–The other interesting aspect of yesterday’s trade was divergence in stock index net changes. DJIA and SPX were both higher, while Nasdaq finished with a small loss, and Russell small caps were again the weak link, closing down nearly 1%. High yield ETFs HYG and JNK also are showing signs of rolling over, both lower yesterday, and now testing gaps left from October 16 after the plunge and subsequent bounce. My guess is that high yield will again become the focus of trouble ahead, given record levels of business debt ($11.6T, nearly as large as Fed’l gov’t at $12.6T). It’s not a problem if underlying assets stay strong and rates low; cash flows can easily service debt in this environment. However, if underlying assumptions start to change, then it may become much more difficult to roll loans. Given fairly heavy trading volumes of the ETF’s, it’s a quick way to track high yield sentiment.
Nov 17. If things are great then why is the treasury curve flattening?
–Japan again in recession as GDP falls 1.6% with the Nikkei falling 3% and the possibility of snap elections. Japan equity weakness has spilled over into other markets, with SP’s lower and treasuries higher. However, there seems to be some “sell the fact” profit taking in $/yen near 117… now 116.26.
–Yields fell Friday with the ten year down nearly 3 bps to 231.7, a carbon copy of the previous Friday. Friday to Friday change: Ten year yield 231 to 231.7. TYZ4 126-22 to 126-21. 2/10 181 to 181. Last Monday morning the high for the week in TYZ was set at 127-005. This morning’s high so far is 127-00.
–Actually, 2/10 spread did close just under 181 Friday, eking out a new low. 5/10 treasury spread is also at its low for the year at 71.5. This level is the 50% mark from the low of 2006 at 6.6 to the high in 2011 of 149. The trend of this year has been that important support levels that have been tested a few times (oil at $80 and gold at $1200) tend to dramatically give way. I wouldn’t be surprised to see 5/10 approach 50 bps by year end. The question is, why does the treasury curve continue to flatten if we are to accept the stock market’s message of a robust economy? Peak one year euro$ spreads were between 110 and 120 earlier in the year. On Friday there was good buying in EDZ5/EDZ6 at 100 to 100.5, but it fell back to close at just 97 bps. Again, interest rate markets have a much more subdued view of economic growth and likely Fed activity going forward.
–Having said that, interest rate markets closed at their extreme levels for the year at the end of 2013. Tens were 304. Now the 30 year bond is at that yield. Maybe the end of 2014 will mark the low point. Even though the official unemployment rate has dropped to 5.8% I see more and more 20-something panhandlers on the streets of downtown Chicago than ever. What am I going to believe? Gov’t stats or my own eyes?
–The market is afraid of an asset price spiral lower in Europe. There is obvious fear that EURCHF peg is going to break with the Swiss gold referendum. Look at the stocks of European banks. Credit Suisse is down 25% from the year’s high. DB is down 40%, looks like the ten year yield chart, inexorably lower over the year.
–Today’s news includes Empire State expected 10.3 and Industrial Production 0.2% from 1.0. Fed minutes are Wednesday, which should shed clues about the hawkish statement which was released on Oct 29.
