Steely-Eyed Bond Bulls Look To Reclaim Upper Hand After Fourth Quarter Setback

Those looking to trade on something other than geopolitical headlines will be greeted with a full docket in the week ahead.

Markets will digest CPI, retail sales, Philly Fed, University of Michigan sentiment and a flock of Fed speakers. And don’t forget about the signing ceremony for the interim trade deal between the US and China. Presumably, traders and investors will finally get a look under the hood at the details of what the Trump administration continues to insist is a historic agreement.

One thing’s for sure: If you were a bond bull and you stuck it out in Q4 as yields moved higher, you’re probably feeling some semblance of vindicated so far in 2020.

Bonds have bounced back as the safe-haven bid associated with tensions in the Mideast has helped cap Treasury yields. A bullish seasonal for TY helps, as does the cheapening from Q4 – in today’s world, 10-year Treasurys at ~1.95% looked like a bargain.

If anything, this week’s data stateside will likely reinforce the bull case for bonds. After all, even if CPI prints in line with estimates (2.4% YoY), that’s hardly “scorching hot”, and besides, the Fed’s preferred gauge stubbornly refuses to take off.

Throw in the fact that Jerome Powell has essentially said it would take a series of unthinkably high inflation prints to change the Fed’s decision calculus, and one is left with the impression that when it comes to what can really move the needle back in favor of the bear case for bonds (and thereby for the reflation narrative), what matters is data out of Germany and China. If there’s a convincing inflection in global growth, that’s where it will show up.

On the home front, the December jobs report was passable on the headline, but average hourly earnings were extremely subdued. That’s also bullish for bonds, as is a sub-50 ISM manufacturing gauge which, as we’ve discussed at length, looks anomalous when plotted against other US economic data, but not so much when plotted with 10-year yields.

Seen in that light, it’s stocks that are the “anomaly”.

A cooler-than-expected CPI print and a miss on retail sales could easily reignite the bond rally, although there’s still 12bps on the downside before we’d hit the panic lows in yields seen in the minutes around Iran’s strikes on US bases in Iraq last week.

Still, some think enough is finally enough. “Sharp negative returns are more likely than a continuing bull market in bonds”, Credit Suisse’s James Sweeney wrote last week.

Although the bank isn’t brave enough to say that one of the most recalcitrant trades in history is going to suddenly roll over, they do gently suggest that if you’re a long-term investor, it may be unrealistic to expect the four-decade bond bull to make it to the ripe, old age of 50.

If inflation were to accelerate, bond returns “could be very bad”, Sweeney told Bloomberg. Even a mild rise to 3% inflation (on average) this decade would mean real returns for bonds would be “very negative”.

Suffice to say our buddy Kevin Muir would agree.


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