Wait a minute...  I didn't know the Fed was even OUT of the MBS market yet!  Isn't that supposed to happen at the end of the first quarter of 2010? 

Yes...

And hasn't the fed already said that they will "act as necessary" blah blah blah blah blah? 

Yes...

So why is there news today about what is ostensibly more of the same "there if you need us" talk from the Fed? 

More than anything, this is reiteration and/or confirmation of that which has already been made clear: to whatever extent the perception remains that housing and the mortgage market are integral to economic recovery, the Fed will (here comes the cliche) "ACT AS NECESSARY."  In other words, you don't get to know at what point rate sheets will be bad enough to force the Fed's hand here, but in Ben we trust, right?  I suppose that the choice of words quoted from Fed officials today does constitute a bit of an evolution in verbiage, but you decide for yourself:

Fed officials "are prepared to contemplate changes if
need be, depending on conditions in the economy, housing finance
and in financial markets more broadly,"

As far as I'm concerned, nothing major.  Just reiteration of that which has already been reiterated.  Also important is that this was not said by Ben, and markets will have the opportunity to get the nitty gritty anyway in tomorrow's FOMC minutes.  Speaking of that, here we are capping off another rally day leading up to the first batch of important data this week.  The question on so many minds: "Now that at least some of December's losses have been recaptured, is it safer to lock in what I have now in case tomorrow takes a turn for the worse?  What are the chances of that?  If we lose ground tomorrow, could it be big losses?  What about gains?"

Let's try to get to the bottom of that...  Starting with a look at today's action.

The main thing I notice today purely as far as the shape of trading for the past two days is the lack of volatility versus yesterday and the opposite being the case for stocks.  (in fact I apologize that stocks and bonds are overlayed, but there are some important comparisons).  My gut reaction to this is the continual clearing of the "December Fog."  This is my new little term for the uncertainty that heavily clouded the reality of bond prices at the end of December and that REMAINS until more guidance is available.  It's not a big surprise to see bonds improving after such a massive sell-off.  The long term chart shows that this is usually the case.  And the fact that it's occurring despite neutral or offsetting Econ data and flat or rising stocks adds credence to the sense of "money coming back into the market" after the holiday.

BUT THE BIG PROBLEM IS THAT NO ONE REALLY KNOWS THE FOG FROM THE DEADLY TOXIC POISON CLOUD!  Ok, new term... "Deadly toxic poison cloud."  This then, would be my little metaphor for the TRUTHS behind late december's rate back-up.  For instance, to whatever extent broad perceptions of the health of the economic recovery are improving, or that inflation panic is picking up again, or that government borrowing needs are a legitimate fear, or that better and better economic data is expected, and that the housing and mortgage markets are more and more self-sustaining (as if!), then masquerading as fog is the deadly toxic poison cloud.  And by the time you breathed it in, hoping or even planning for rates to naturally correct to a 10yr note near 3.5, it would already be too late...  Deadly!

The point is not that there is necessarily some huge barrier of weakness in store for rates any time soon.  The point is exactly as AQ said in the last commentary : CROSSROADS! RATES SEEKING CONFIRMATION OF THE MONTH LONG BEARISH BIAS!  In other words, December was ugly, maybe for a reason, maybe not, but probably somewhere in between.  We afford the bearish bias the opportunity to prove itself with data and market reaction this week, but failure to move higher than 3.85 in the 10yr is failure to break a long term and meaningful trend seen in the chart below:

As you can see, we're already reasonably lower than those scary 3.84-85 peaks, but certainly close enough to be paying attention.  Also note the argument from stocks.  They are out of the range and moving higher.  I wouldn't read too much into that yet, however.  Stocks have been able to gain plenty against a backdrop of decreasing bond yields as 2009 will plainly tell you.  SO FAR, CONSIDERING THE WEAKNESS IN BONDS INTO YEAR END POTENTIALLY GOING THROUGH A BIT OF AN UNWIND, it's not alarming to see bond yields drop a bit as stocks hold steady and move higher. 

All that said, you may still be waiting for your answer.  The moral of the story is about the fog and the poison.  If anyone knows the exact dividing line where we can tell one from the other, it ain't me.  Sorry for the let down.  But I do think that more severe downside movements for bond prices are likely reserved for the more pertinent data, should it prove unfriendly to bonds.  That data would be tomorrow's FOMC and Friday's NFP.  In that sense, floating into tomorrow morning is safer than it has been.  I'm not sure exactly how safe that is, but the most informative event of the day doesn't occur until after 2pm eastern, plenty of time to roll the dice on gains in the morning.  Keep in mind the Gut-Flop and don't put yourself at risk, but I have a very hard time seeing 3.76 as the lowest 10yr yield of early 2010.

The dark horse is the crafty ADP report.  I could care less about it or what it says about the state of the labor market.  It's not even a bottom shelf data point to me.  But others disagree, and look to it as an early indication of NFP.  Sometimes that works out for them, but just as often, it doesn't.  Still, number that deviates greatly from an interpolated NFP consensus could cause speculation to pick up that the beginning of 2010 kicks the recovery into high gear and our "fog" starts looking quite poisonous, quite quickly.  Overnight floats are never without their risks.