2s10s

Is Today's Bond Selloff Driven By Goldman's Announcement 2.50% Target On 10 Year Reached

While there is nothing to suggest a fundamental improvement in the economy, and judging by the latest batch of data the economy is in fact continuing to deteriorate, we have so far seen a substantial sell off in bonds across the curve, with the 2s10s steepening by 11 bps (just in time for the bull flattener bandwagon to enjoy some out-of-steepener rotation pain). So what is the catalyst for the selloff? Francesco Garzarelli's note to Goldman clients titled "Forecast Reached, Risks Now Balanced", in which he implicitly advises to take profits on USTs, sent earlier may provide some clues...

Guest Post: We're All In A Race To The Bottom

The political and economic environment is unfolding much as we discussed several months ago. Markets are being socialized and the government/central bank policies are meeting the problem of too much debt with more debt. But investors are beginning to see risk in a different light: The only "growth" is from stimulus, and how long can that last?... We're all racing to the bottom. There will be no winners, only non-losers as the government "spreads the pain." The non-losers will be those who have prepared: no or little debt and some savings for a rainy day (or decade). This was my only real advice for years.

2s10s Under 200 Bps For First Time Since April 2009, Curve Collapse Adds Fuel To Fire Of Macro Fund Implosion Rumor

The 10 Year continues to burrow ever deeper inside 250 bps, last seen at 2.46% or 8 bps tighter on the day, as now the Greek-Bund spread has blown up: did the fake stress tests buy Europe all of one month of time? A country fully backed by the faith and credit of the ECB is once again imploding - what can we say about the "faith and credit" of the ECB then? The only thing keeping the EUR from plunging at this point is the expectation that the Fed will (soon enough) print another cool $2-3 trillion. And the kicker, for Julian Robertson and whatever the macro hedge fund rumored to be liquidating (aside from the TRS which we pointed out yesterday), the 2s10s has just crossed inside 200 bps, the tightest the spread has been since April 2009. Since at least half the market players are still stuck holding on to steepeners, and are now about 30% underwater from the top 4 months ago, add 10x TRS-based leverage, and you can see why whatever fund is blowing up now won't be the last.

2s10s Prepares To Breach Key 200bps Support, As Curve Flattening Resumes With Feeling

The main (and lately only) bullish indicator that everyone seems to be focused on (for all the wrong reasons), continues to telegraph ongoing distressed for the financial segment: the 2s10s part of the Treasury curve has tightened to 206 bps (this was nearly 290bps a few months ago). At today's rate of flight to safety it is possible the key psychological (whatever that means - computers need therapy if Fib levels are brached?) support level 200bps will be taken out. This means all the leading indicators will soon reorient downward yet again, which also includes the ECRI LEI, which is once again due for an inflection point. And the recently far more critical from a funding standpoint, 2s10s30s butterfly, which we have discussed extensively as the primary carry driver of stock purchasing ability, has just gone double digit again.

Daily Credit Summary: August 23 - Low Volume, Low Range, Low Growth

Spreads closed marginally wider, at the worst levels of the day, after an anemic volume day that only picked up in activity when we weakened. Overnight angst from Australia combined with some weakness in EU data was marginally trumped early on by M&A chatter and headline spin on US ECO data but further evidence of a deflationary view of the world (NSC 100Y issue) seemed to provide some downward pressure and despite valiant attempts to steepen the curve or drive AUDJPY up, stocks ended at their lows of the day as did spreads at their wides.

We have had a number of clients asking about our views on the forthcoming GM IPO. Suffice it to say, and in the interests of brevity, we are not overly impressed and worry about this on many fronts as anything but a flipper's fantasy (drop us a line for somewhat more coherent thoughts). Most notably we have noticed something rather fascinating in the Auto sector. The relationship between GM's 2016 bonds and the Ford Equity price has been amazingly (and we mean incredibly) consistent for many months now - a simple arb at around 2.5x Ford's stock price explains huge amounts of variance in the GM bond price and we suggest tracking this going into the IPO for any signs of a preference. One we would expect is selling of Ford to buy into the GM IPO in hopes of flipping soon after and still leaving the manager equally exposed to the Auto sector - this would also be interesting as the GM bonds have residual ownership in the new GM and may be a decent hedge here should the deal be 'better' than many expected. Just thinking out loud on this but we will keep an eye on it.

Double Top Formation Suggests 2.2% Or Lower Yields For The 10 Year, 2.8% For The 30

While traditionally technicals have been considered voodoo by the vast majority of "legitimate" financial analysts, lately the trend has flipped, and scribbling that one is something as demode as a fundamental analyst tends to generate scowls of disapproval and outright disgust from PMs with a 10 second holding horizon during hedge fund interviews. Which is why looking at the chartist tea leaves, as Goldman's John Noyce has done, suggests that those looking for much more irrational exuberance in bond yields may get their wish, as a double top formation may be forming in 10 Years. The result of a broader double top would likely be an end target of between 2% and 2.2% in the 10 Year, and something potentially as low as 2.84% in the 30 Year, which would probably put all those with TBT exposure in the poor house.

Daily Credit Summary: August 17 - POMO you don't!

Spreads tightened across Europe and the US today with indices outperforming intrinsics thanks to rumors of JPY intervention and headlines proclaiming European sovereign fears over, the US recovery still in place, a 'coming' M&A boom, and the start of the Fed POMO encouraging risk-taking. The thinness of markets (given the summer slump and general lack of desire) enabled modest re-risking to move markets rapidly at the index levels across sovereigns, financials, and corporates in the US and Europe. The completion of the Irish and Spanish debt issues today seemed in and of itself enough to get everyone going (despite notably higher yields in the former and suspected 'help' from the ECB in both) and despite a major drop in German confidence, bond spreads and CDS compressed relative to Bunds with a feeling of squeeze to the move in SovX today - 9bps tighter vs 6bps intrinsics and leaving the index notably rich to intrinsics overall.

Morgan Stanley Strategy Slidepack

Attached is MS' most recent strategy slidepack covering European credit strategy, US rates (for those who just can't get enough of those 2s10s steepeners), credit strategy, and credit and equity derivatives. As the firm now has one the most bullish biases on Wall Street, the pack should at least provide those bearishly inclined with a sense of what not to do.

Bonds And Stocks Diverge Terminally As Steepeners Capitulate

The attempt to gun stocks despite a battery of bad news is so far succeeding, as risk is now diverging completely from yields and no correlations hold any longer. Those tempted to test whether any human correlation traders remain may play the convergence trade, but with this unprecedented amount of central planning in the market now, it would appear unduly risky. Yet one place where there is most certainly risk, is for job prospects of all those on the steepener bandwagon: the 2s10s has just hit 208 bps, as the steepener trade and the thousands of lemmings behind it are getting slaughtered. We eagerly anticipate the latest life support note from Jim Caron.

Visualizing The Past Of The Treasury Yield Curve, And Deconstructing The Great Confusion Surrounding Its Future

The chart below shows the UST yield curve over the past 20 years: as is more than obvious, every single point left of the 10 Year is at record tights. The only question on everyone's lips is where do we go from here. And that is where the confusion really hits. The confusion is further intensified by the sudden collapse in the 2s10s and the 2s10s30s butterfly. The odd thing here is that a flattening move as violent as recently seen in these two curves, has historically preceded a rise in the Federal Funds rate as can be seen in the chart to the right, before the Fed began tightening in 1999 and in 2004. In other words a flattening has traditionally been a leading indicator to an economic improvement (as liquidity extraction tends to go side by side with a pick up in inflation and thus economic growth). Alas, this time around, a tight monetary policy is the last thing on the Fed's mind, and the economy is only starting to demonstrate it is rolling over into a second and more violent recessionary round. In essence, the Fed's interventionist intention of purchasing the entire curve (including the long-end), as recently announced by the FRBNY, has completely dislocated all leading signaling by the curve itself. As a result, speculation is now rampant as to what may or may not happen. A case in point are the divergent opinions of Bank of America and Morgan Stanley. While the former Merrill Lynch is advocating an outright 10s30s flattener, Morgan Stanley is sticking to its guns and continues to push for a steeper curve: this in spite of the collapse in the 2s10s from a records steepeness of almost 290 bps in May, to under 220 bps as of Friday's close: the over 25% collapse is enough to blow up most of the funds who had positioned themselves for further steepness. At least Morgan Stanley is consistent. Yet both banks urge clients to hedge their trades and provide creative ways to do so, as both realize the likelihood of being wrong, now that the Fed is openly the biggest market participant, is probably higher than the inverse.

10 Year Under 2.7% As Legacy Curve Steepeners Cause Much Pain; Yields Imply 75 Points Of S&P Downside

The pain for the biggest groupthink trade over the past year, the curve steepener, is getting unbearable. The 10 Year is now pushing below 2.70%, last hitting 2.69%, the lowest in over 16 years, as the 2s10s is at 219 bps, or the tightest since April 2009. At the same time, deflationary CMS trade are printing money. Look for many more steepener unwinds, especially if the 10 Year continues on its steady path to 2.5%. At this rate the record level may be hit in as little as 24 hours. And unlike before, equities tamely follow through the deflationary path suggested by credit. And now that equities have finally regained some semblance of rationality, they have a long way to drop: according to the mid-term chart between 10 Year and stocks, the fair value of stocks is around 1,025, or 75 points lower. We expect this level will be recaptured shortly.

Daily Credit Summary: August 10 - Bad Start, Queasy Finish

Spreads closed wider today with HY underperforming IG and for the sixth day in a row, credit underperformed equity on a beta-adjusted basis. The IG and HY indices closed off their worst levels of the day (just prior to the Fed comments) but notably underperformed stocks in the subsequent rally as every correlated asset class disconnected from stocks post Fed. This was a day of three parts to a great degree: pre-market, pre-Fed, and post-Fed; with credit underperforming equities through each phase and financials weak in general - particularly the majors. IG closed at its widest level since 7/28 and HY its widest close in August. IG and HY saw their largest close-to-close widenings since 7/16 (in percentage terms) - the day of the big drop in Consumer Sentiment.

Treasury Curve Flattest Since May 2009 At 227 bps, Morgan Stanley Dual Digital CMS "Deflation Hedge" Trade Well In Money

One word how mortgage originators and funding desks feel right now (not to mention Morgan Stanley bull steepener clients): Panic. The 2s10s is now at the flattest it has been since May 2009 and going lower. All leading indicators (such as the Conference Board's, see the musing from the FRBSF yesterday on the topic) that use the flatness of the Treasury curve as an input variable are about to have a heart attack, further indicating the deflation is coming, in turn further pushing the yield lower. Ironically, those who followed Morgan Stanley's recent deflation hedge trade recommendations (1 Year dual digital out 100bp in one year if 2y CMS is below 0.8% and 30y CMS is below 3.3% at expiry for 16.5bp; and the 1y 1s5s conditional bull flattener, for zero cost, struck at 126bp. Currently, the spot 1s5s curve is at 130bp) are well in the money.

San Francisco Fed: "A Recessionary Relapse Is A Significant Possibility Sometime In The Next Two Years"

From the San Francisco Fed: "An unstable economic environment has rekindled talk of a double-dip recession. The Conference Board's Leading Economic Index provides data for predicting the probability of a recession but is limited by the weight assigned to its indicators and the varying efficacy of those indicators over different time horizons. Statistical experiments with LEI data can mitigate these limitations and suggest that a recessionary relapse is a significant possibility sometime in the next two years...the likelihood of a recession is essentially zero over the next 10 months but that the odds deteriorate considerably over the following year." And the market rips.

Quick FX update

USDX at important pivot point-- markets will be finding direction soon and USDX will pave the way.