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Global Bonds – Saying Negative Interest Rates And Recession?

It can be useful to look at what the bond market is saying as in general they tend to be more sensitive and in tune with the actual economy than the stock market. In particular we can look at longer term bonds – such as ten, twenty or thirty year yields – to filter out the short term noise and volatility to get a better view of where the economy is heading. Right now bonds everywhere are saying…

This morning’s Thundering Word note at Merrill Lynch contains an interesting passage about the litany of “pain trades” that have blown up as the end of the “max liquidity” regime has wreaked havoc in some of the most crowded areas of the market…

A “Cesspool of Rotation” 2015 asset returns have been none too shabby: stocks 7%, commodities 6%, bonds -1%, dollar 4%. But this should not be mistaken for Wall Street terra firma. Since Fed tapering was announced (Feb’14) investors have been scarred by a series of vicious “pain trades” (Table 1), crowded trades suffering harmful reversals.

For example, many were positioned this Jan for US macro liftoff. Once weaker- than-expected Q1 data caused the Fed to “blink” in March, an immediate painful US$ peak, biotech selloff and trough in oil prices ensued. In the same vein, bond investors were “all-in” on ECB QE at the end of Q1. German bunds and other European bond markets were priced-to-perfection. Few acknowledged the surprise turn higher in EU inflation expectations as even Spain outperformed US growth in Q1. A sudden “buyers strike” for $6tn of negatively-yielding global government bonds (it’s now $4.5tn) caused a 16% crash in German bund futures in 13 trading days.

Josh here – this cuts to the heart of the idea that nobody knows nothin’ and that the blowup will always occur just when enough people have caught on to a theme and there’s no one left on the other side of the seesaw.

Jeff Gundlach likes to say “When you hear people in the investment business say the word ‘Never’, that’s when it’s about to happen.” In the case of many of these pain trades, the term “never” was often assigned to the other side of them – ie: Utilities will never outperform in an improving economy. Oh well.

Source:

Lots of guys and gals went home this weekend thinking about the implications of the recent rise in the 10-year Treasury bond’s yield.

Chris Kimble notes it was the biggest 5-week rate rally in twenty years!

So are we bumping along the bottom or is a new longer term uptrend in its nascent stages?

My pal Eric Peters quotes “the Roadrunner”, whom he calls the biggest volatility trader in the market, as to where we could feasibly be headed:

“There were massive sellers of 3mth 10 and 20 delta treasury puts on Friday; vol collapsed,” explained Roadrunner. “They’re players who sell futures against their options and never cover.” For the past few years, these players like Pimco only sold calls and bought futures. Bond prices rose every time to their strikes. “Direction-wise, it’s uncanny how good they are.” Maybe they’re so big, it’s self-fulfilling. “And looking at the flows and the strikes this time, 2.75% 10yr yields in 3mths seem within reach.”

Having spoken extensively with financial advisors, fund managers, high net worth investors, asset allocators, mutual fund wholesalers and portfolio managers around the country this winter, I don’t believe the majority of market participants are anywhere near ready for this to be a continuing trend.

Between the alternative fixed income allocations and the “bond-like stock” stuff everyone’s been doing, I think the majority of folks are what you’d call “out of position” right now.

Friday’s turmoil is a sign that people now feel the need to be changing things up. Trends don’t last forever, after all, and playbooks always grow stale in the end.

Sources:

Interest rates up 33% in 5-weeks, sharpest rally in 20-years (Kimble Charting)

wknd notes (Peters Capital Group)