Bond Expert: Monday Outlook

Prices of Treasury coupon securities are surging this morning as the historic global margin call continues and fears of a deep and protracted recession lead investors to the relative safety of government bonds.

The yield on the 2 year note has dropped 8 basis points to 1.43 percent. The yield on the 5 year note has tumbled 8 basis points to 2.50 percent. The yield on the 10 year note has slipped 7 basis points to 3.62 percent. The yield on the Long Bond is flirting with a breach of the 4 percent level and it rests at 4.01 percent.

It is my opinion that the Treasury market is underperforming and that the weight of huge issuance in the wings from the Treasury has dampened sentiment. The Long Bond has performed well but that issue benefits from distortions in the global derivatives markets which have resulted in distortions in the 10 year /30 year piece of the swaps curve.

The 2 year remains distant from its low yield on this cycle of 1.25 percent and is quite a distance from the 1.10 level which it attained in 2003 when the FOMC last placed the funds rate at 1 percent.

In that iteration, the 5 year note plunged to 1.99 percent and we are 50 basis points away from that level.

The 10 year note currently yields 3.62 percent and in 2003 it traded close to 3.10 percent. Earlier this year it traded at 3.30 and 3.25 percent.

So with the FOMC about to push rates to historically low levels and with the financial system and the economy in a meltdown, it is my conclusion that the Treasury has too many bonds for sale and appetite for government debt is somewhat sated.

The Treasury will sell 4 ½ year TIPS today and a 2 year note and a 5 year note later in the week. The Treasury refunding announcement is nigh and that will bring more auctions and undoubtedly news that new bonds are and will be added to the cycle.

The immediate cause of the bond strength this morning is the equity meltdown around the globe.

The Nikkei hit a 26 year low and declined 6 percent as the surging yen will punish exports. Financial stocks are taking a pounding as a round of capital raising is imminent.

The Hang Seng fell more than 12 percent and stocks in mainland China fell 7 percent on profit concerns.

Ancillary market took a drubbing with Thailand down 10 percent and the Philippine market cratering over 12 percent. I am shocked that Ho Chi Minh has a stock market named for him. It seems a less than appropriate tribute for the nationalist rebel who led the guerrilla war which flummoxed and divided America for years. Anyway, his market dropped nearly 5 percent.

European stocks are down about 5 percent. Recession fears are rampant there and that reflects in a drop in the IFO in Germany to a 5 year low.

IG 11 is now 228/233 which makes it about 20 wider for the day.

There is little change in swap spreads this morning.The 2year is tighter by 2 1/2 basis points at 122 basis points. The 5 year, 10 year and 30 spreads are flat at 110, 47, and ZERO, respectively.