Raising Eyebrows

Raising Eyebrows

Thursday was something of a barnburner for multi-asset investors.

After suffering an egregious first quarter rout, bonds have been reluctant to sell off this month despite mounting evidence that the US economy is indeed poised to realize the kind of blockbuster growth consensus expects going forward.

Given the counterintuitive character of the market in April (i.e., bonds exhibiting signs of resilience in the face of scorching US data and outperformance from secular growth and other equities expressions that lost out in the post-election, pro-cyclical euphoria), it’s perhaps only fitting that bonds’ disposition to rally crescendoed on a day when retail sales and jobless claims both printed massive beats.

Yields fell by as much as 12bps out the curve, as the bull flattening impulse gathered steam in what Bloomberg’s Edward Bolingbroke called an eyebrow-raising move. “We’ve seen some real-money cash buying emerge which would support further gains, while an expected influx of bank issuance deals may also be providing favorable hedging flows, all against the backdrop of an expected pick-up in demand from Japanese accounts,” he said Thursday, adding that “the rally may be signaling a separate wave of short covering flows as the outlook turns more favorable for bonds.”

The 2s10s flattened the most since November. TLT, the widely-followed long-end product which fell into a bear market on March 12, managed its second best session of 2021 (figure below).

Through Thursday afternoon, the vehicle was on track to log its best week of an otherwise abysmal year.

“Our constructive bias has been further reinforced by the weekly MoF data that revealed during the week of April 9 Japanese investors bought $15.6 billion in overseas notes and bonds,” BMO’s Ian Lyngen and Ben Jeffery said. “This series includes all non-Japanese sovereign debt [but] the vast majority of it tends to be US Treasurys [and] given the hedged-to-yen yield in this current environment, the attractiveness of US rates hedged back into local currency remains an important backdrop in pondering which investor bases will participate in the ever-growing net issuance requirement,” they added.

As bonds surged, so too did US equities. The S&P hit a new record high, with tech and healthcare leading the charge. I wanted to overcomplicate this — I really, really did. As regular readers can attest, if it’s possible to overcomplicate something, I’m ready and willing to engage in any and all efforts to reinvent the wheel. But on Thursday, simply owning SPY and TLT was as good a strategy as any.

If you’re looking for definitive answers on the Treasury rally in the face of rip-roaring US economic data, don’t ask State Street. “This continues to be one of the more confusing dynamics in markets at least right now,” Michael Arone, chief investment strategist for the firm’s SPDR exchange-traded business told Bloomberg.

Commodities were higher Thursday too. Gold rose sharply. If you lost money, you must have been trying.

TD’s Priya Misra said Wednesday that “Japanese inflows into foreign bond markets typically start to pick up in May and tend to peak in July, August and September.” “This buying pattern of Japanese investors coincides with the seasonally strong performance of global sovereign bonds in the summer,” she remarked.

Of course, it probably helps that Fed officials have gone out of their way (and then some) to make it clear that if there were plans to taper asset purchases, you’d know about them.

The absurdly recursive nature of forward guidance means that any indication that the Fed is considering whether and when to taper will be treated as though it were the taper announcement itself. As such, it’s not just the actual taper that needs to be telegraphed well in advance, but also the discussion about tapering, and perhaps even the discussion about having the discussion.

So, while the Fed may be fine with a backup in long-end yields to the extent it can be pitched as a sign of confidence in the US recovery, I’d still submit that an eventual WAM extension or a new Operation Twist are just as likely as not.


5 thoughts on “Raising Eyebrows

  1. Rarely has the bond market looked more sinister to me than now. It’s like a Stephen King setting, with fog rolling in to mask the murky gatherings underneath, while equities are still out playing on the beach. πŸ˜‰ I won’t predict what happens when I turn the page, but it’s a Stephen King novel, after all…

  2. Man, it has been so hard to be a dinosaur recently, eh? Recently meaning since 2009, anyway. Following the “immutable” rules of “value” in stocks and bonds have been disastrous for investors.

    As our Dear Leader aptly reminds us, “rules” are not rules, but simply belief systems.

    It’s hard for us old geezers, eh? The road map we relied on has proven to be hopelessly out of date.

    Thankfully I woke up to the notion that the only thing that mattered post-2009 was money flows and that traditional value measures were useless, except as a thermometer measuring demand. Buy-backs especially. That realization served me well.

    But I’ll confess that I still have difficulty accepting the underpinnings of risk-parity-type models which pay no heed to the virus, the economy or anything beyond asset price action. Yet they often dominate and overwhelm all other investment flows.*

    Are they the final manifestation of stock and bond markets being nothing more than gussied up casinos? Through that lens the rise of cryptos makes total sense. They are a logical extension of the severing of any lasting links between Main Street and Wall Street.

    I am still awaiting a modicum of performance data that will convince me that returns from vol-control/risk parity models are returning anything better than buying SPY and some bonds. I hear crickets!!

  3. So is it settled? The 10Y had risen (and given an indigestion to equities/growth stocks) purely b/c of the change in the SLR? And, now, regardless of the rather hot data in the USA (inflationary, innit?), yields are coming down b/c bond demand is strong?

    That’s… a bit unsatisfactory. I’m all for technical/flow factors being important but WHY is bond demand strong? Who is buying bonds when inflation seems poised to make a comeback?

    (NB: fwiw, like our host, I don’t truly believe inflation will make a sustainable comeback b/c I don’t believe that Labor will be able to make Capital cry for mercy anytime soon… but I would put conviction at the 65/70% level ie allowing for the fact that we know nothing).

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