Last week bond traders aged several years in just 5 days as they suffered through a hair-raising juggernaut of sharp daily moves and abrupt reversals...
... which sent the 10Y yield surging through a critical resistance level and beyond...
... even as the 2s30s yield curve continued to crater, tumbling to a level not seen since October 2007.
Well, if last week was bad, it's about to become a rollercoaster from duration hell, because as Bloomberg previews the week ahead, with yields threatening to leap higher, "bond traders will grapple this week with market-moving stimuli coming at breakneck speed."
Following last week's ECB and BOJ decisions, this week US events will take center stage, as traders focus on Janet Yellen’s final meeting as Fed chair, the Treasury’s plan to cover widening deficits, and, on Friday, the latest update on the U.S. job market.
The selloff in Treasuries less than a month into 2018 last week sparked the latest bear market call, this time from Ray Dalio, who joined Bill Gross and Jeff Gundlach, warning of massive losses should bond yields spike.
"It seems almost impossible how much is jammed into one week,” Michael Lorizio, a senior trader at Manulife told Bloomberg. "The more responsible shorter-term trading rationale is rather than making a major shift in your investments, being willing to miss the first few basis points to have your longer-term thesis proven or disproven by the new data and information.”
Besides an unexpected upside surprise to the January jobs number following a disappointing December report, this week could see yields spiking should the Fed surprise the market with a statement on Jan. 31 that comes off as “more hawkish” than last month’s, in part because of climbing inflation expectations. In terms of expectations, Fed funds futures are pricing in more than 2.5 rate hikes, close to the FOMC's own forecast of three. At the end of last week, options activity indicated growing interest in hedging against an extended selloff.
Meanwhile, Bloomberg notes that the 10-year breakeven rate is the highest since 2014, as inflation protection demand surges (it wouldn't be the first time we have seen a breakeven headfake, only to tumble back down).
But while bond traders have learned to navigate the BLS and the Fed, in a potential unexpected twist, the Treasury will likely unveil bigger note sales this week for the first time since 2009, pushing supply higher with yields expected to follow. In other words, more issuance just as the Fed is trimming its balance sheet. Two weeks ago Goldman warned about precisely this risk, when it calculated that in 2018 US marketable borrowings will more than double from below $500 billion in 2018 to over $1 trillion in 2019 as the US deficit-funding debt tsunami finally get going.
Of course, if the US consumer is getting weaker - and not stronger - as the popular narrative suggests, any yield spike will be very brief, as deflationary forces reestablish themselves. One such catalyst is the US personal savings rate, which as we showed most recently on Friday tumbled to a decade low and the third lowest on record (we will get an update on this rate tomorrow)...
... and the only thing that kept spending from crashing in Q4 was a record surge in credit card usage.
Dimitri Delis of Piper Jaffray also points to the deteriorating U.S. savings rate as a catalyst for future economic weakness. “I don’t know what’s going to keep the consumer on the same pace as the last two years,” he said. “I can probably string together events that can get us to 3 percent on the 10-year, but once it gets there, are the fundamentals there to support that level? I don’t think so.”
Then again, as Bloomberg concludes, two months ago traders weren’t so sure that 10-year yields could break above 2.4% and they’ve stayed above that level for five weeks. The trend for months has been for yields to climb and consolidate, before breaking even higher. And now that some of the most important trendlines are in sight, should yields continue to climb, some big holders are due for a big shock: as a reminder, according to the OFR, the market value impact from a 100bps rate shock is some $1.2 trillion and rising by the day.
With all that in mind, here are the key things to watch in the coming rollercoaster week, courtesy of Bloomberg.
- President Donald Trump’s State of the Union address on Jan. 30 at 9 p.m. ET
- The Treasury announces quarterly refunding plans Jan. 31
- Jan. 31 is also when the FOMC releases its latest policy decision, in Yellen’s final meeting as chair before handing off to Jerome Powell
- San Francisco Fed’s John Williams, who emerged this month as a candidate for Fed vice chair, is set to speak on Feb. 2
- A fresh read on the U.S. labor market and an update on the Fed’s preferred inflation gauge highlight economic indicators:
- Jan. 29: Personal income and spending; PCE deflator and core PCE; Dallas Fed manufacturing activity
- Jan. 30: S&P CoreLogic Case-Shiller home price indexes; Conference Board consumer confidence
- Jan. 31: MBA mortgage applications; ADP employment change; employment cost index; MNI Chicago business barometer; pending home sales
- Feb. 1: Challenger job cuts; nonfarm productivity; unit labor costs; initial jobless claims; continuing claims; Bloomberg consumer comfort; Markit U.S. manufacturing PMI; construction spending MoM; ISM manufacturing
- Feb. 2: Change in nonfarm payrolls, unemployment rate and average hourly earnings; factory, durable goods and capital goods orders; University of Michigan survey data
- Treasury bill auctions on Jan. 29 and Jan. 30
Finally, judging by the spike in 10Y on Sunday night, some are unwilling to wait and are already dumping.