Bond Kings and the Futures(s)

By Jeffrey Snider

Maybe there is hope for the media yet. The benchmark 10-year US Treasury bond yield has passed above 2.40% for the first time in several months. In the past any similar move or technical breakout of the like was met with uniform screeching about a BOND ROUT!!! This time, however, commentary appears at least to me much more subdued, perhaps as even the rat given the electric shock eventually figures out in which direction the food lies.

That doesn’t mean there aren’t a plethora of articles expounding on the continued narrative about interest rates and the “only” direction they can travel. It’s been six years of this, so there is no more “only” to that equation but for transitory comments. It won’t stop those committed to the case from still preaching it:

“The moment of truth has arrived for secular bond bull market!” DoubleLine Capital Chief Investment Officer Jeffrey Gundlach tweeted Tuesday, just before yields touched session highs. “Need to start rallying effective immediately or obituaries need to be written.”

I’ve stopped counting the almost endless string of moment of truths that have come and gone with no truth and fewer moments. With respect to Mr. Gundlach’s point, the market just doesn’t seem to agree. And by market I mean UST futures rather than cash.

In fact, the futures market, which is what really matters, is re-enacting the same behavior as in 2014. Each of these BOND ROUTS!!! following each major “reflation” selloff occur with less and less futures market conviction.

In this latest one, the center of gravity barely shifted to net long, and it did so starting the week of September 5 – when everything else in dollars and “dollars” went nuts. That would seem to indicate a more cautious tone about the market than a significant change in stance.

In fact, the week China reopened from holiday the net futures position in the UST market started sliding back toward short (suggesting a shift back toward a lower rate bias). Even yesterday’s Bloomberg article cited above was careful to note that derivatives positions beyond UST futures aren’t following Gundlach’s advice, either:

Before Tuesday’s afternoon leap, options market trading indicated doubts about the 10-year yield sustaining its climb. A flurry of activity on Tuesday indicated renewed interest in November call spreads on 10-year Treasury futures, effectively a bet against the yield barreling through the 2.4 percent to 2.42 percent range.

Again, the reason for the futures market shift may have less to do with inflation and Janet Yellen and more to do with the usual “dollar” sh#@ that tips UST yields lower and lower over time.

If commercials tightening up at quarter end played any significant role (draining liquidity from long non-commercials), and it appears that it did given that most of this latest (undeclared) BOND ROUT!!! had occurred before Q3’s end, then the past few weeks of expanding capacity for new longs to replace what was lost is a potential lid on the interest rate increase.

That doesn’t mean, of course, that things can’t change. The Fed, which really is irrelevant, but in the short run it can factor as traders trade old myths unaware of their debunking, may surprise, or the tax cut may be looked at a hundred other ways that the market briefly teases into a better economy (before the inevitable disappointment). Something in China as CNY/HKD further unwinds could spook commercials again.

But the opposite case is also possible, if not, in my view, more likely. The bond market, especially the bond futures market, has seen this movie before. The economic and funding risks remain heavily weighted to the downside no matter the mainstream commentary (that is almost always proven exactly wrong given only enough time) or the proclamations of whatever of the bond king du jour.

There is, as of now, way too much 2014 in 2017 for the Treasury futures market to believe, and trade, otherwise.

Subscribe to NFTRH Premium for an in-depth weekly market report, interim updates and NFTRH+ chart and trade ideas; or the free eLetter for an introduction to our work. You can also keep up to date with plenty of actionable public content at NFTRH.com. Or follow via Twitter @BiiwiiNFTRH, StockTwits or RSS. Also check out the quality market writers at Biiwii.com.