Remember what I wrote last night in “Why We’re Vulnerable: CTAs’ ‘Oversized Loss’ Betrays Extreme Positioning“?
No? That’s ok. It was Sunday evening and you were probably drunk (I would have been too had I not almost drank myself to death last November).
But long story short, that post (which you should read if you haven’t) took a look at the juxtaposition between positioning in the 2Y and positioning in the 10Y as delineated in the latest CFTC data.
I also cited two new pieces from Deutsche Bank in which Francis Yared and Aleksandar Kocic talk CTAs and the potential for extreme positioning to act as a contrarian indicator.
This debate of course takes place against the backdrop of hawkish rhetoric from DM central banks who are engaged in a coordinated effort to roll back accommodative policy.
Ultimately, the whole thing boils down to this: what’s the next leg for rates?
And indeed that’s the title of Goldman’s latest GOAL Kickstart note, which is excerpted below and makes many of the same points we made last night…
What’s the next leg for rates?
Last week G4 bonds continued to sell off with UK, German and US 10-year yield increasing by 18 bp, 10 bp, 9 bp, respectively. This week brings two key events for bond markets: (1) Fed Chair Yellen’s prepared opening statement for her Semiannual Monetary Policy Report to Congress on Wednesday and (2) CPI/ Core CPI on Friday.
Our economists forecast another below-consensus reading for June which should continue the Fed’s ‘dual mandate dilemma’ with inflation still below target while growth and labour markets remain strong.
Bond market positioning seems to imply further flattening of the US yield curve. Net long positions on longer-dated bonds remain close to 10-year highs while 2-year bond future positions are net short. US rate volatility also remained very low compared to the recent spillover effect from Europe and to this weeks’ events. We think inflationary pressures will return and see potential for steepening of the inflation curve. With Fed pushing up short-dated real rates and ECB and BOJ anchoring longer-dated rates and term premia, US breakeven inflation trades cheap on our iSwap Model. With the Fed starting to reduce its balance sheet and ECB tapering expected over 2018, we look for a rebuild of term premiums on nominal curves. We remain UW Bonds on a 3 and 12m horizon in our asset allocation as we continue to see little return potential and poor return asymmetry in the near-term.