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Why Did Bond Markets Get Hit So Hard This Morning?
Posted to: Micro News
Thursday, January 17, 2013 9:34 AM
Good morning, and welcome to a relatively big, unexpected sell-off for bond markets. We're expecting a lot of questions about why things are happening the way they are this morning, so let's get right to the simplest explanation we can muster.
Remember earlier in the week when the Japanese Yen was mentioned in the context of US Bond Markets for the first time in a long time? Essentially, the domestic bond market rally was being helped along by Japan's ostensibly aggressive moves to devalue the Yen in order to support export growth and prevent deflation. A lower yen typically coincides with lower Treasury yields.
On Tuesday Japan's Economy Minister Amari threw a bit of cold water on the perception of a rampantly weakening Yen, but this morning has said that a weaker yen shouldn't be much of an issue until it his 100.0. It was trading as low as 88 yesterday and it now up to 89.44 following thos comments.
Amari's comments along only account for a portion of that movement however. They were most damaging as the catalyst for a snowball in European markets leading toward higher rates. That merely started the snowball rolling. Europe gave it a bigger push.
Rumors that the ECB is considering tighter collateral requirements, which sparked concerns about paybacks on the ECB's LTRO's (Long term refinancing operations) at the end of the month. Think of that like a "reverse QE." Just like when the Fed pumps money into the system to lower interest rates and encourage lending, if European banks are pumping money back out of the system (by paying more of it back to the ECB), the implication is for higher rates.
German Bunds moved from 1.47 to 1.55 by 6am New York time. That's a big move! Treasuries were following in relative lock-step, but as is typical during European hours, the movements in Treasuries were an order of magnitude smaller than Bunds, moving up only 5.5 bps vs the 8bp move in Bunds.
That was cause for celebration as it seemed that the massive, unexpected overnight weakness was already in the process of bouncing off a ceiling at 1.86%. Fannie 3.0 MBS had opened at 104-10--a supportive floor earlier in the week--and were hoping to hold there, or close to it. Domestic bond markets were certainly on the back foot, but with some hope of a bounce back with the help of cooperative data.
Data didn't cooperate...
It's hard to say which 8:30am headline had more impact on bond markets because both of them were significantly stronger than expected. The drop in Jobless Claims since 2008 and the highest unit rate of Housing Starts since 2008, both on the same morning at the same minute. That's quite the sucker punch after being forced higher by an unexpected, headline-inspired snowball sell-off overnight, not surprisingly leading to the biggest minute of volume since NFP on January 4th, contributing to the 2nd biggest hour of volume since then (only lagging last Thursday's ECB announcement/press conference).
The move is disconcerting in the sense that introduces the potential for a bounce off longer term trendlines in Treasuries. That said, we've been holding some ground near the current 1.87 levels, which could ultimately look like a supportive ceiling/pivot tracing back through Jan 8th, 9th, and 14th. Too, we mentioned 104-03 in this morning's chart as a longer-term "modal" support level for Fannie 3.0s. That's exactly where we bounced on this morning's sell-off and MBS have since come back a few ticks to 104-07.
Bottom lines: this is a bit scary so far this morning, but there are glimmers of hope that it's not necessarily the end of the world. Stepping back a few more feet and this morning's thoughts on "sideways-ness" are probably right on:
"Really, it's less to do with trying to divine whether or not rates are about to explode higher or lower, and more to do with deciding on sideline seat for sideways parade heading into the sideshow of political headlines surrounding the debt ceiling debate. "
In other words, regardless of any near term, moderate moves higher or lower, the overriding theme is sideways for the broader range. We'd have to be breaking above 1.92 in 10yr Treasuries (and convincingly) to really change that. As for the rest of the day: waiting and seeing.... hoping for ongoing moderation from morning weakness to confirm broader sideways trend.
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