Morning Report: What caused yesterday’s carnage in the bond market?

Vital Statistics:

 

Last Change
S&P futures 3082 -2.25
Oil (WTI) 56.27 -0.94
10 year government bond yield 1.95%
30 year fixed rate mortgage 4.04%

 

Stocks are flattish this morning on no real news. Bonds and MBS are down.

 

There was no catalyst I can see for why bond yields rose so dramatically yesterday. There wasn’t any economic data (initial jobless claims aren’t market movers) and there was no Fed testimony or anything. The 10 year bond yield rose from 1.81% to 1.97% intraday in what was a complete wash-out for the bond market. If anything, it felt like a major asset allocation trade was happening, where investors sell bonds and buy stocks. Many funds will use a strategy comparing the earnings yield or dividend yield on the S&P 500 versus the yield on government bonds. That said, this was a global phenomenon, as the German Bund and UK bond yields have also been heading lower. It is almost as if we went from fretting about a recession to fretting about inflation. Maybe the China deal caused it, and maybe it was exacerbated by convexity selling, but there really isn’t a good explanation out there of what was going on. You can see the dramatic move intraday yesterday. Note that the move started late in Asian trading before the European markets opened and carried on throughout the day.

 

11-7 bond chart

 

JP Morgan just did a credit risk transfer deal on portfolio of jumbo mortgages. In these sorts of deals, investors get a above market interest rate in exchange for bearing first losses on the portfolio. It works essentially like an insurance policy. This means two things: first, banks may be the first step in taking some of the burden off Fannie and Fred, and second we may see better jumbo pricing as a result.

 

Zillow says that its house-flipping business will generate as much as $1.25 billion in revenues. The company reported a loss last night that beat expectations, and the stock was sent up 9% after hours.

Advertisements

Morning Report: Rates heading lower

Vital Statistics:

 

Last Change
S&P futures 2788 -17
Oil (WTI) 57.53 -1.78
10 year government bond yield 2.23%
30 year fixed rate mortgage 4.31%

 

Stocks are lower this morning as bond yields continue to fall worldwide. Bonds and MBS are up.

 

Mortgage applications fell 3% last week as purchases declined 1% and refis declined 6%. This is despite a 6 basis point drop in mortgage rates.

 

Bond yields are down worldwide, with Japan, Australia, and Germany all hitting lows or close to it. This is not being driven by trade concerns – it is being driven by economic malaise in Europe. The German Bund, which is the European benchmark, is yielding -17 basis points (which means you have to pay to lend to the German government). Japanese government bonds yield -10 basis points. All of this will pull down US bond yields as investors swap out of negative yielding assets into positive yielding ones. Even if investors need to bear the foreign exchange risk to buy a US Treasury, many of them figure a possible loss is a better deal than a certain one.

 

Expect the narrative of the business press to evolve as this goes on, from worrying about trade issues to worrying about an inverting yield curve. The business press is going to jump at the narrative that the yield curve is predicting an impending recession, especially as we head into the 2020 elections. Be careful with that interpretation. Historically an inverted yield curve has been a signal of a recession, that much is true. That was before the days of extensive central bank intervention in the bond markets, which has diluted the economic messages being sent by rates. The signal-to-noise ratio of the yield curve is at a historical low, and has been for the past 10 years.

 

Instead of signalling a recession, lower long-term rates are more likely to be good news for the US economy in general. Slower global growth will keep a lid on inflation, which will give the US economy more leeway to grow without building inflationary pressures. This has been a theme for the the past 30 years – emerging economies exporting deflation, and that allows the US economy to run hotter than it ordinarily would. And, unlike the late 90s or the mid 00s, we don’t have a stock / residential real estate bubble to worry about. Note that consumer confidence is back towards 18 year highs as well.

 

Quicken CEO Dan Gilbert had a stroke over the weekend. We all wish him a speedy recovery.