Treasury Curve Flattest Since May 2009 At 227 bps, Morgan Stanley Dual Digital CMS "Deflation Hedge" Trade Well In MoneySubmitted by Tyler Durden on 08/10/2010 09:13 -0500
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.
Morgan Stanley On Why The US Will Not Be Japan, And Why Treasuries Are Extremely Rich (Yet Pitches A 6:1 Deflation Hedge)Submitted by Tyler Durden on 08/08/2010 20:14 -0500
We previously presented a piece by SocGen's Albert Edwards that claimed that there is nothing now but to sit back, relax, and watch as the US becomes another Japan, as asset prices tumble, gripped by the vortex of relentless deflation. Sure enough, the one biggest bear on Treasuries for the past year, Morgan Stanley, is quick to come out with a piece titled: "Are We Turning Japanese, We Don't Think So." Of course, with the 10 Year trading at the tightest level in years, the 2 Year at record tights, and the firm's all out bet on curve steepening an outright disaster, the question of just how much credibility the firm has left with clients is debatable. Below is Jim Caron's brief overview of why Edwards and all those who see a deflationary tide sweeping the US are wrong. Yet, in what seems a first, Morgan Stanley presents two possible trades for those with access to the CMS and swaption market, in the very off case, that deflation does ultimately win.
After surging to a several week high, the 2s10s has plummeted to a one week low in the matter of hours, dropping back down to 236 bps. This follows a day of fireworks in the curve, in which as Market News discusses below, we saw some pretty aggressive hysteria in flattener unwinds. Oddly enough, the collapse in the curve has occurred as the 2s have hit another record low yield, indicating that no matter how much of a spin opportunity any givendiffusion index headline provides, the bond market is increasingly pricing in deflation (and in fact the yield on various classes of TIPS was negative earlier today).
David Rosenberg On What Happens When The Glorious 30 Year Great Bull Market In Bonds Comes To An EndSubmitted by Tyler Durden on 07/28/2010 10:22 -0500
From David Rosenberg's Wednesday letter: "The primary purpose of this comment is to suggest what things may look like when the Great Bull Market in Bonds, which began in 1981 with 30-year Treasury Bonds yielding 15.25%, finally comes to its glorious end. For starters, I think it is safe to say that the bull market in bonds will end reasonably close to the point in time that inflation (or deflation) bottoms. This is because we have determined that by far the major economic factor that correlates consistently with the direction of market-determined interest rates, at least for long term Treasury Bonds, is CPI Inflation (headline and core)...So what will be the cause of the next secular uptrend in inflation or hyperinflationary shock? It pays to look back at history. Prior to the inflation of the 1970s-early 1980s, periods of very high inflation were primarily associated with war. Increased credit demands to fund the war effort combined with the drop in productivity that goes along with blowing everything up is an inflationary stew." Alas, never before in the history of US society have we been at the point when noted economists, financiers, and socialites so frequently and openly compare the fate of our society to that of the Roman empire in its last days, when the Roman emperors, oblivious of personal harm, would debase the currency on a daily basis, and hike taxes, with the end result being the collapse of the empire itself. As we will demonstrate shortly, we ourselves may be getting quite close. And in those uncharted waters of the global economy and, in fact, civilization as a whole, where the central bankers fight for the very survival of the status quo on a daily basis, we are confident that prudence on long bond and inflation rates will be first to be jettisoned as the kleptocratic oligarchy fights to avoid the pitchforks and guillotines for at least one more day.
What's driving bond yields to their lowest level since April '09? Could it just be an ominous 1930s echo...
For a while now I have been making for the great deflationary wave that is upon us. We have argued that for demographic reasons, because of the unprecedented productivity gains of the last 30 years, and last but not least due to the bursting of the credit bubble, deflation is inevitable . This is compounded by the fact that the phenomenon is generalized in the western world, China with excess capacity both in terms of production and workers, and with its huge credit bubble in the bursting, will absolutely not be our savior. This is why despite government officials forecasting 3/3.5% growth over the next 5 years (which is both wishful thinking, an attempt to get the consumer to spend more money he doesn't have, and a way not to have to remark all the unfunded liabilities out there) Federal Reserve officials are worried that we are caught in a liquidity trap. Central banks are in a race to try to reinflate the system using monetary largesse and currency debasement, but that only works when everybody is not in the same boat... For now their liquidity has made its way straight to the stock market and increasingly to hard assets and precious metals. That just means whatever central banks are doing is relatively useless. The core fabric of our economy remains feeble and it's bubble or bust.- Nic Lenoir
A recap letter by Goldman's Dominic Wilson, Director of Goldman's Global Macro & Markets Research, is surprisingly conciliatory in its most recent view of the world. The firm notes tongue in cheek that while its Top 9 ideas for 2010 have lost its clients billions, it is still megabullish, but no longer "too dogmatic." We are not sure what that means except that Goldman prop is selling into every rally, and Goldman will still have all the >5x beta stocks on conviction buy up until it moves them to the conviction nuke list, just like JPMorgan did with its disastrous recommendations on greek banks. Nonetheless, reading between the propaganda lines, the following recap is one of the better two-sided evaluations of the world currently to come from a sell-side desk.
Despite a better Friday, European sovereign risk and US financial reform continue to weigh on markets, causing some to connect the dots from these sorts of concerns to broader questions about the health and sustainability of the global cycle. Our baseline view remains that these fears are overdone. Indeed, in Wednesday’s Global Economics Weekly, Jim O’Neill argued that the world remains “Better than you think” with the needed austerity in peripheral Europe posing only minimal challenges to our above consensus global real GDP growth view. Importantly, conclusive economic evidence of a shift in the business cycle has yet to materialize. However, there are some faint signs of fraying around the edges of the evolving macro data set, and, especially in the US, we continue to expect a second half slowdown. US retail spending continued to grow in April, but the acceleration in spending has paused. Weekly UI claims have stalled, and shown no improvement for several months. The Philly Fed survey inched up by a tenth of a point in May, but key leading subcomponents (New Orders less Inventories in particular) failed to make headway, as has been the case for several months. Euroland PMI fell in May, though it remains solidly in expansionary territory, indicating a slowdown in the rate of growth but not a shift in direction, as did German PMI after a blowout reading in April. - Goldman's Noah "Top Trades For 2010" Weisberger
One of the notable observations in recent Treasury auctions has been the increasing participation by commercial banks in taking down 10 and 30 Year Treasury auctions - traditionally two parts on the curve banks have historically avoided like the plague. We present some observations on why this may be happening as well as some troubling conclusions, both of which indicate trouble, namely that liquidity is and has been the name of the game for the past 13 months, and that commercial banks, or presumably some of the smarter money around, are seeing economic distress ahead.
Spreads were mixed in the US with IG worse, HVOL improving, ExHVOL weaker, and HY rallying. IG trades 10.9bps tight (rich) to its 50d moving average, which is a Z-Score of -1.4s.d.. At 84bps, IG has closed tighter on only 6 days in the last 326 trading days (JAN09). The last five days have seen IG flat to its 50d moving average. Indices typically underperformed single-names with skews mostly narrower as IG underperformed but narrowed the skew, HVOL outperformed but narrowed the skew, ExHVOL intrinsics beat and narrowed the skew, HY's skew widened as it underperformed. 4.8% of names in IG moved more than their historical vol would imply as higher vol names underperformed lower vol names by 0.36% to -0.4%. IG's vol is around 4.38% per 1 day period, which leaves 95 names higher vol and 30 lower vol than the index. The names having the largest impact on IG are Altria Group Inc (-10.75bps) pushing IG 0.08bps tighter, and Universal Health Services Inc (+7.25bps) adding 0.06bps to IG. HVOL is more sensitive with International Paper Company pushing it 0.23bps tighter, and SLM Corp contributing 0.21bps to HVOL's change today. The less volatile ExHVOL's move today is driven by both Altria Group Inc (-10.75bps) pushing the index 0.11bps tighter, and Universal Health Services Inc (+7.25bps) adding 0.07bps to ExHVOL.
Following our focus yesterday on key supports in Fixed income, we feel that the risk is that on a rally here the curve could flatten. Indeed 2Y yields even though they rose recently, remain very low, and we feel that if the next leg is up in fixed income then the long end should outperform. We have attached a chart of 2/10 for US treasuries, as can be seen we just retested the 50-dma. - Nic Lenoir
PIMCO Total Return Fund Hits $214 Billion, Gross Cuts Cash By $14 Billion, Buys Treasuries And Foreign Government HoldingsSubmitted by Tyler Durden on 03/16/2010 17:49 -0500
Pimco's Total Return Fund has released its February holdings, which is now a ridiculous 54% higher than a year earlier, at $214.3 billion. The fund reduced it cash holdings from $19 billion in January to just $4 billion in February, and used the proceeds to buy $10 billion of US Treasuries ($75 billion in total), $5 billion in Mortgages ($36 billion), and also expanded further internationally, buying $3 billion in Non-US Developed country bonds (total of $41 billion). Pimco also surpassed the $10 billion mark in Emerging Market holdings. The firm kept its holdings of High Yield bonds flat at $6.4 billion. While there were no major asset reallocations, Pimco did change its curve exposure materially, eliminating all of its sub-1 year paper, which in January amounted to $17 billion. The firm added the most exposure to the 5-10 year bucket, which increased by $12 billion to $72.9 billion. The greatest amount of holdings is still in the 1-3 year bucket. Holdings of 20 years or over were a moderate $15 billion. Is Pimco gradually shifting to a flattener position?
We start with Fixed Income. With supply next week and unemployment report on Friday we had a preference being short fixed income this week. Technically we see that on the bund we have been in a narrow 123/123.65 range, and the slow stochastic is about to turn which has not generated a false signal in quite some time for that market that decent sell-off of at least 2 figures is on the way. 10Y treasury futures have held the 118-10 resistance but curiously look like they are in the process of doing a 5th wave up with potential between 118-27 and 119-05. It is not ou preference to view the recent price action as a bullish impulse with respect to the overall market dynamic since the highs last March but we remain cautious about the possibility of extending further on the upside. The bund paints a slightly more bearish picture for now. Still we are fairly overbought here and we think the risk reward is tilted to the downside. People who do not wish to express this view directionally can engage in a 5s/10s flattener (charted here using implied yield on the future). We see that we are back testing the former wedge support as resistance and we are fairly close to the highs excluding the post-lehman spike in the curve. Negative carry on the position is only 9bps per quarter so it is not too expensive to hold the position as well.
Some intraday Treasury market commentary from Market News. Everyone's word of the day is steepeners (except for Rosie, who loves the flattener. As usual he is on to something, although the "don't bet against the Fed" mantra should be amended to "don't bet against optimistic groupthink"). Don't fall for the call stupids.
Somewhere Julian Robertson is convulsing in a fit of lucre-driven epilepsy. The question for today: what is the bigger pain trade - an outright stock short, or a UST flattener? Everyone knows one shouldn't go against the Fed, however the Fed is behind both of these... So where will it crack first?