Bond Expert: Friday Wrap

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 |  Includes: BIV, IEF, IEI, TIP, TLO
by: John Jansen

Prices of Treasury coupon securities are posting mixed changes today and as the day draws to a close the belly of the curve will outperform the wings of the curve. There was some active trading earlier in the session but as the day has worn on customer interest has wanned.

In an earlier post I noted that the yield curve had steepened to near record levels with 2 year/10 year at 270 basis points and 2 year/30 year at 360 basis points. Each of the spreads has retraced some ground and each is 4 basis points to 5 basis points narrower now as I write.

One salesman noted two factors at work which influenced the yield curve. He noted that there had been some rate locking early in the day which had would have steepened the yield curve.

Additionally (and I was away from Across the Curve HQ so I was unaware of this), President Obama spoke about the economy near midday and some bond market participants thought that with the unemployment rate surging to double digits that he might drop the dreaded second stimulus bomb. That fear resulted in expanded worries regarding Treasury supply and pressured the long end.

But alas that never came to pass and that source of pressure on the long end dissipated quickly as participants could see no reason to be short the back end of the market at nearly the widest spreads since the dawn of time.

David Ader of CRT makes some interesting points in his weekly piece and they are somewhat deflationary points which would augur against being short the long maturities.

He notes the dip in the non manufacturing ISM earlier in the week.

He also notes the surge in Productivity and the sharp decline in unit labor costs reported this week.

The unemployment rate has surged to 26 year highs and the workweek has dropped. At the same time the duration of unemployment is extending.

All of the above is bond-friendly stuff and should make one think twice about holding a large outright short or a large position long the yield curve.

Another salesman and friend of the blog pointed out that in the last several cycles of Treasury supply the back up for the supply comes on the Thursday and Friday in advance of the auctions, and when the auction cycle commences the following week each auction goes quite well with minimal market disruption.

I would place myself in that camp, and think that most of this back up in rates and widening of spreads is motivated by the heavy supply calendar by my new friends at the Treasury Department. (After meeting them I feel I cannot refer to them as Timothy Geithner and his minions.) However I refer to them they are issuing record buckets of paper and it is causing a little financial agita.

The yield on the 2 year note has declined 2 basis points to 0.85 percent. The yield on the 3 year note has slipped 3 basis points to 1.36 percent. The yield on the 5 year note edged lower by 3 basis points to 2.31 percent. The yield on the 7 year note declined 3 basis points to 3.02 percent. The yield on the 10 year bond edged lower by a solitary basis point to 3.51 percent. The yield on the Long Bond bucked the trend and increased a basis point to 4.41 percent.

The 10 year 30 year spread widened 2 basis points to 90 basis points.

The 2 year/10 year spread widened a basis point to 266 basis points.

The 2 year/5 year /30 year spread is at a recent wide of 64 basis points. It began the session at 60 basis points.

TIPS spreads do not believe the disinflation story and I would fail to inform my readers of that. Ten year TIPS are currently at a breakeven spread of 217 basis points.Just prior to the FOMC statement the breakeven was 209.

Thirty year TIPS are in the same arena with the breakeven spread at 239 basis points. Just prior to the FOMC proclamation that spread was 229 basis points.

I believe that in each instance we are at the widest levels of the year. The FOMC has mentioned in its minutes that it does observe indicators of inflation expectations. This is one of those indicators. However, the FOMC has also disparaged the signals emanating from the TIPS market as the market is somewhat illiquid.

Illiquidity might matter for the short run but with the long term trend moving wider the FOMC might at some point be force to pay the TIPS indicator some heed.

Interesting times in which we live.

Thanks to all and have a great weekend.

JJJ