Friday Rates ‘Unwind’ Underscores Risk Of Macro Crowding, Nomura’s McElligott Writes

It’s become an ad nauseam refrain in these pages and, one imagines, elsewhere too. Extreme positioning predicated in one way or another on the assumption that rate cuts/easing are coming due to the seemingly endless deluge of dour data, is vulnerable to a sudden unwind in the event the narrative shifts even subtly.

As we put it on Friday morning, “with markets now extremely ‘doved-up’ and with positioning in rates crowded, there’s no shortage of dry kindling scattered about just waiting on someone to drop a match”.

Although it’s probably a stretch to call the June jobs report a “match” or to characterize Friday’s moves in the rates space as a conflagration, the reaction to payrolls is, at the least, a reminder of what can happen when the prevailing market zeitgeist shifts.

“Today’s ‘unwind-y’ macro trade is a pure expression of the risk I’ve been discussing with regard to the consensual buy-in of the ‘Long Duration’ view”, Nomura’s Charlie McElligott wrote in a short Friday blast. These trades are “crowded for the right ‘end-of-cycle slowdown’ reasons” he notes, before cautioning for the umpteenth time that in terms of positioning, things are “extreme enough that even just the slightest ‘upside surprise’ across growth-, inflation- or China trade / tariffs- inputs could drive a far more outsized move in trend themes and asset prices than the macro catalyst itself should merit in isolation”.

That’s a critical point, and it underscores why the Fed has to be so careful about disappointing expectations. If what we saw on Friday morning is what happens when the macro narrative subtly shifts based on one upside surprise in top tier data, just imagine what would happen if the Fed were to lean hawkish in the statement or, perhaps even “worse”, if Powell were to fumble another press conference with some of his signature “plain English”.

Read more: Will The June Jobs Blowout Kill The ‘Easing, Easing, Easing’ Rally?

In his Friday note, McElligott describes the action. “Illiquid July 5th trading conditions have escalated a simple ‘profit-taking’ into a price ‘shock’ across the various and crowded Fed easing ‘Slow-flation’ expressions in rates [with] White / Red ED$ in particular -12 to -15, while UST 10Y has cheapened over 11.5bps, all off the back of the +3SD upside surprise in headline NFP / a +5.5SD beat in the Manu NFP”.

(Bloomberg)

That, Charlie notes, is some “proper profit-taking” as the trade “turns sloppy after [an] incredible run”.

Remember, this was predicated just on the headline payrolls print. Things would have likely been far more dramatic had average hourly earnings accelerated too.

Anyone warning about “rogue inflation prints” has looked like a Chicken Little for quite a while now, and to be sure, that may continue to be the case. But never forget that it was an above-consensus AHE number on Friday, February 2, 2018, that served as the catalyst for Vol-pocalypse the following Monday.