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Mortgage News Daily

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Why are Bond Markets Losing Ground This Morning?
Posted to: Micro News
Friday, March 14, 2014 10:46 AM

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A few questions have come up as to why bond markets are losing ground this morning, especially after weaker Consumer Sentiment data.  (NOTE: Treasuries are still in positive territory on the day, and MBS are close to unchanged.  This discussion is more about why we might see serendipitous movements that don't necessarily align with default expectations based on incoming data or lack thereof).

It's important to keep in mind that most of current movement in financial markets is being driven NOT by economic fundamentals or any other factors external to the market.  Rather, in geopolitical risk situations, markets trade on the observation of what  other market participants are doing.  It only takes a small amount of reaction to a particular headline to motivate organic movement, and from there, it's simply "herd mentality."

If a few head of cattle see a nice patch of grass and walk quickly toward it, some of the others who don't see the grass may start following simply because "if those other cows are moving over there quickly, there must be a reason, and since I'm a cow too, what's good for them is probably good for me.  Wait up guys!" 

Normally, our little herd would be spread out enough to see their own patches of grass for themselves and make their own culinary decisions.  But the geopolitical risk climate tends to bring the herd closer together.  None of the folks pushing buttons at trade desks are experts on Russia/Ukraine relations.  At times like this, there's less impetus to be opportunistic.  It's safer for any given cow to stick with the herd until she can get a more normal view of the landscape.

All that to say: "anything can happen" when it comes to big geopolitically-driven rallies or sell-offs.  If stocks happen to bounce at a particular level for a particular reason, all Treasuries (and by extension, MBS) care about is that another big market sector bounced.  If German Bunds are bouncing in the same direction (moving away from panic), Treasuries are most likely to move in the same direction in this environment.

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On a final note, keep in mind that the current rally in bond markets is built on straw.  While it's true that some straw houses can be pretty darn nice, they rely on cooperation from the weather if they hope to last very long.  Remember that Ukraine headlines combined with month-end positivity in February to take bonds into unexpectedly strong territory.  After that, they returned to the same mild, higher-in-rate trajectory seen in mid-February.  It was only by virtue of yesterday's flare up in headline risk that bonds returned to the late February range. 

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All that to say that the natural tendency would be to gravitate toward that higher-in-rate range in the absence of the Ukraine situation.  Bond markets have to muster a certain amount of extra energy to constantly be fighting the effects of that gravity, and they can only do it for so long unless fundamentals help out, and we'll be waiting at least until next week for that possibility.

Bond markets are also cognizant of the possibility that fundamentals could suggest more economic positivity than expected, or more of a move away from the weather-related drag in January.  If such a thing happens to coincide with a 2nd phase of cooling tensions in the Ukraine, things could get very challenging very quickly for rates.  That's not to say they WILL get challenging (tensions could just as easily flare hotter and econ data could be crappy), but it's a risk to be aware of.

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