Nov 28, 2017 - that with the Treasury Department initially expected to ratchet up borrowing in the front-end of the curv
A daily focus on fixed income markets, trends, and trades
28 November 2017
Lyngen/Kohli BMO Closing Call, November 28 Ian Lyngen, CFA, MD, Head of US Rates Strategy, Aaron Kohli, CFA, Director, Rates Strategist US Market Comments TUESDAY'S LEVELS: 2s: 99-32 175.40 bp, 5s: 99-22 1/4 2.064%, 10s: 99-08 2.335%, 2s/10s: 57.68 bp, EDZ7: 9814, TYZ7: 124-31+, USZ7: 154-07, S&P: 2622.
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Advance Goods Trade Balance, Oct – disappointed at -$68.3 bn vs. -$64.1 bn Sept and -$64.9 bn consensus. Will weigh on Q4 growth expectations. Wholesale Inventories, Oct P – lower-than-expected at -0.4% vs. +0.4% forecast and Sept was revised to +0.1% from +0.3% initial estimate. FHFA House Price Index, Sept – below forecasts at +0.3% MoM vs. +0.8% prior and +0.5% anticipated. Case-Shiller House Price Index, Sept – better-than-anticipated at +0.52% MoM vs. +0.44% Aug and +0.30% consensus. YoY came in at 6.19% vs. 5.82% prior and 6.04% forecast. Conference Board Consumer Confidence, Nov – unexpectedly gained to 129.5 vs. 126.2 Oct and 124.0 consensus. Present situation improved to 153.9 vs. 152.0 Oct. Expectations increased to 113.3 vs. 109.0 Oct. Richmond Fed Manufacturing Index, Nov – above consensus at 30 vs. 12 Oct and 14 anticipated. Corporate deal calendar included a Life Storage $400m 10s, Andeavor Logistics nc5s, Delta Air Lines $450m 3s, Physicians Realty $300m 10s, Synchrony Financial 10s, Pinnacle West Capital $300m 3s and a Buckeye Partners $400m 60nc5s. 7-year Treasury note auction was poorly received with a 1.5 bp tail for a 2.23% stop-yield and a bid/cover of 2.29x vs. 2.52x average. Dealers took 27.7% vs. 19.3% average. Indirects got 58.6% vs. 66.2% norm. Directs managed 13.7% vs. 14.5% average. North Korea has reportedly fired a ballistic missile that landed off the coast of Japan. Senate Budget Committee has voted to advance GOP tax bill to the floor – up next: debate, vote-a-rama, and final vote. Treasuries spent most of Tuesday in a higher range with 10-years yields touching 2.31% for the first time since November 8th. The bullish skew for the Treasury market was supported by the weaker trade data, marginally more dovish-than-expected Powell comments, and early signs of trouble in Washington as continuing resolution (CR) negotiations started – or rather failed to start. While the data took some of the loftier ambitions out of the fourth-quarter GDP estimates, it was much more of a side-show to the drama continuing to unfold inside the beltway. The market’s grinding bid accelerated following Trump’s tweet announcing that he is “meeting with “Chuck and Nancy” today about keeping government open and working. Problem is they want illegal immigrants flooding into our Country unchecked, are weak on Crime and want to substantially RAISE Taxes. I don’t see a deal!” That was only part of the impetus for lower yields however, as Trump’s tweet was subsequently followed by reports that Pelosi and Schumer pulled out of the White House meeting. To be fair, if there is no room for a deal why have the meeting? Oh wait, perhaps because the government will shut down without a compromise by
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• BMO Capital Markets Fixed Income Strategy • Margaret Kerins, CFA, Global Fixed Income Strategy Head • https://strategy.bmocm.com
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next Friday. We’re certainly cognizant that it’s simply politicians taking early negotiating postures, but Trump needs 60 votes in the Senate to get a deal through and that means without the support of at least some members of the Democrat party there will be at least a temporary shutdown. » »
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The phrase ‘temporary shutdown’ is something of a misnomer; after all, aren’t all government shutdowns temporary? If the Federal government permanently closed we’d all have much bigger concerns than the direction of 10-year yields. That said, a short-lived shutdown appears increasingly likely, especially in light of the timing of the Alabama Senate election that occurs on December 12th – why would the Democrats compromise before gaining a better understanding of their Congressional strength in 2018? Let us not forget, Trump went on record earlier this year noting that the government could “use a good shutdown to fix this mess.” That said, the relatively uninspired price action on Tuesday was accompanied by below-average flows. Overall, cash traded at just 95% of the 10-day moving-average. 5s were once again the most active issue, taking a 32% marketshare while 10s were second at 24%. In line with the auction process, the 7-year took 1.3x the norm for a 12% overall share. 2s and 3s were on the upper-end of the range taking 26% combined at 14% and 12%, respectively. The long-bond was below the norms at just 5% and 0.7x the average flow.
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Tactical Bias »
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We’d be remiss not to acknowledge our optimism that the market appeared poised for a breakout toward lower yields on Tuesday, but the 2.31% level has held in 10-year yields for the time being. Coiling and building up a volume bulge is certainly consistent with our bias to see 2.25% before any material shot at the 2.476% yieldpeaks from late-October and so we’re content to watch the process play out. It has become increasingly clear that the 2.30% to 2.31% range will be difficult to break and we’ve already heard of selling interest the closer the market gets to that range. That said, any stumble in the tax reform process or another round of disappointing economic data might provide the needed trigger. The constructive tone in the Treasury market was dealt a blow by the lackluster reception to the 7-year auction and in something of a surprise (at least to us), it took a while to recover from the absence of sponsorship for the benchmark. Typically the 7-year sector isn’t a significant directional indicator for the broader market, so we’re more apt to fade any follow-through supply indigestion.
» Our near-term views haven’t changed as the week has unfolded – we like the market and continue to expect curve flattening into month end. As it was a refunding month, the elevated duration extension hasn’t come as a surprise, although it doesn’t detract from its relevance. We can recall a period in the midst of the Fed’s QE program when month-ends were far less important because the Fed was the biggest buyer in the market and those Treasuries were not counted in the benchmark indexes (i.e. government holdings are excluded). Those days have long since passed and in fact, as the great unwind of the Fed’s balance sheet picks up in 2018 and more securities are funded in the public market, month-end should receive additional focus. The caveat here is that with the Treasury Department initially expected to ratchet up borrowing in the front-end of the curve, the impact on the average duration extension should be muted. Not that this dynamic will be an issue this week, but we offer it as a consideration for the year ahead. »
More immediately germane to the Treasury market is the Senate’s ability to quickly move through the vote-arama process of adding amendments to the GOP tax bill. We’ll get a much better sense of the likelihood that the Senate can produce a viable tax reform deal in the coming days – but our initial apprehension hasn’t waned. We’re somewhat surprised that the market has been able to take the most recent North Korean missile test in stride – responding with little more than an in-range bounce. We’ll be watching for how the overseas market responds as confirmation that the geopolitical risks have taken a back seat to the ever-changing political landscape.
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November 28, 2017
- Ian Lyngen and Aaron Kohli
Impending Events
MBA Mortgage Applications, week ending November 24th – prior read +0.1%. GDP Annualized QoQ, 3rd quarter – expected +3.2% vs. +3.0% prior. Personal Consumption, 3rd quarter – consensus +2.5% compared to +2.4% prior. Core-PCE QoQ, 3rd quarter – seen +1.3% vs. +1.3% prior. Pending Home Sales, October – expected +1.1% compared to 0.0% in September. Federal Reserve Release Beige Book. Fed speakers include Dudley (voter), Yellen (voter) and Williams (non-voter).
Technical Analysis
2s – The 2-year has been on a path of rising yields for the better part of three months and while the latest drop does offer some potential for a turn, it remains within the narrow upsloping yield channel that is defined by a yield top just shy of 1.80% and a yield bottom at 1.706%. We'd need to see a break of that level before we arrive at the conclusion that there could be a more serious correction in the offing. On a material rally, we see 1.551% offering first resistance after that channel is broken and see 1.445% as a level beyond that. Though the turn in the 2-year yield offers some optimism, we're guarded not just because we have witnessed a few false dawns already, but also because there's little scope for the 2-year unless the Fed appears close to doing an about-face. On a selloff, the channel top at 1.795% acts as first support but 1.947% is beyond that. The Bollinger band top at 1.779% is only minor support. Momentum strongly supports a turn to lower yields on the dailies but that has been the case for some time.
5s – The overall yield picture of 5s would be more supportive of a triple top if we test 2.146% yield peaks again as the 5-year has stalled out in that space before. We also highlighted the outside up day for yields which in a normal environment is a bearish signal but in this case has proven more bullish. We've broken out of an earlier downsloping yield channel that started in February but the current move to higher yields, which is Fed driven, appears to be running short of steam. Momentum is showing some small positive signs for 5s though not as strongly as for 2s. On a selloff, the 2.146% to 2.178% zone presents some significant support and a break of that puts 2.262%, support from 2011, into view. On a rally, we see 1.963% as the most significant resistance at the 50-day MA and then the 1.881% level as important since it's where the 100 and 200-day moving-averages are converging. Past that, the top of the prior channel and a trendline of support intersect at 1.738%. Momentum is in oversold territory for the 5-year but not showing signs of curling just yet. RSI's are just off oversold levels in RSI.
TY – Rolling activity continues to pick up steam and we'd expect the volume to transition to March in the coming sessions with a large pickup early next week once the Thanksgiving holiday passes. We're back inside the narrow 125-09 to 124-16 range for the TY contract with 125-15 and 124-06+ the further bounds of a wider range that the contract has traded in recently. The 50-day MA that lies at 125-07+ offers further resistance before the 100-day MA at 125-20+. Momentum is middling for the TY contract and supports an in-range trade for the front-month over the coming days.
10s – Momentum in the 10-year sector is uninspired at best with stochastics mid-range and offering no directional bias. This really isn’t that surprising in light of the recent consolidation playing out in the 10-year sector. We’re continuing to watch a head and shoulders pattern form that has bullish implications, but we suspect that will be tested closer toward month-end. For the time being, we’re watching an important volume peak that has developed throughout November that comes in at 2.35% as a pivot point – if not particularly compelling support or resistance. For support, we are focused on the recent yield-peak at 2.413% with the high yield close at 2.461% beyond there. 2.476% will be a hard level to break before the 2.50% obvious support. In
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terms of resistance, we continue to like the 2.304% 200-day moving-average, which is also the low-yield mark since mid-October. Beyond there is the 74-day moving-average at 2.274% before a prior resistance level at 2.213%. The longer-term charts confirm the potential for a more significant rally with a curl and cross of weekly stochastics.
30s – The long-bond’s outperformance has become a key feature of the market in recent months and we’re cognizant that there will come a point at which the move has been exhausted – or at least pauses for a period of consolidation. We’re watching for the benefit of month-end to be supportive, but suspect that a return of ‘cooler heads’ in the wake of the holiday weekend will be an important test. Bullish momentum appears to be waning with stochastics curled modestly off the local lows. We’re tracking resistance at the low-yield mark of 2.739% with little between there and an opening-gap that comes in at 2.668% to 2.699%. For support, there is an unfilled gap between 2.828% and 2.831% before the 21-day moving-average at 2.834%. Beyond there is the 40day moving-average at 2.85% -- a level that has recently been key in both directions. A bullish break would put the isolated yield peak of 2.889% into play before the 200-day moving-average at 2.891%. The weekly chart of 30-year yields is the most constructive on the curve with midrange stochastics strongly favoring lower yields and offering ample room to extend – consistent with the broader flattening narrative.
Attached
Refis as % of Mortgage Loans Mortgage Rates – Freddie Mac 30-year Fixed Personal Consumption Expenditure Contribution to GDP GDP Final Sales of Domestic Product & to domestic purchasers Real GDP – recessions shaded Pending Home Sales – MoM Change vs. 6-month MA 5s/10s Daily 2s/5s Daily 2-year Yields Daily 10-year Yields vs. Yen
28 November 2017
A daily focus on fixed income markets, trends, and trades CONTACTS Margaret Kerins, CFA, MD, Head of FI Strategy
[email protected], 312-845-2687
Michael Gregory, CFA, MD, Dep. Chief Economist
[email protected], 416-359-4747
Ian Lyngen, CFA, MD, Head of US Rates Strategy
[email protected], 212-702-1703 Aaron Kohli, CFA, Director, FI Strategy
[email protected], 212-702-1252
Sal Guatieri, Director, Sr. Economist
[email protected], 416-359-5295 Jennifer Lee, Director, Sr. Economist
[email protected], 416-359-4092
Dan Krieter, CFA, Vice President, FI Strategy
[email protected], 312-845-4015
Benjamin Reitzes, Director, Sr. Economist
[email protected], 416-359-5628
Dan Belton, PhD, Associate, FI Strategy
[email protected], 312-865-5068
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Refis as % of Mortgage Loans lower chart, Purchase Index 90 80 70 50 40
Percent
60
30 20 10 0 550 500 450 350
Index
400 300 250 200 150 1998
2000
2002
2004
2006
2008
2010
2012
2014
2016
2018
Percent of number of loans which are Refi Percent of $ Volume of loans which are Refi Purchase Index YoY Source: BMO CM & Macrobond
Mortgage Rates Freddie Mac 30 year Fixed-Rate, USD 9
8
7
Percent
6
5
4
3 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 Freddie Mac 30-Year Fixed Rate Mortgage Rate Source: BMO CM & Macrobond
Personal Consumption Expenditure Contribution to GDP Recessions Shaded 5 4 3 2
0
Percent
1
-1 -2 -3 -4 2000
2002
2004
2006
2008
2010
2012
2014
2016
2018
10-year Moving-Average (40-quarter) Personal Consumption Contribution to GDP Source: BMO CM & Macrobond
GDP Final Sales of Domestic Product & To Domestic Purchasers GDP minus change in private inventories & GDP less net exports 10.0
7.5
5.0
2.5 Percent
0.0
-2.5
-5.0
-7.5 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 Real Final Sales Final Sales to Domestic Purchasers Source: BMO CM & Macrobond
Real GDP Recessions Shaded 20
15
10
%
5
0
-5
-10 1955
1960
1965
1970
1975
1980
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2005
2010
2015
Real GDP Source: BMO CM & Macrobond
Pending Home Sales MoM Change vs. 6 month MA 30
4
25
3 20 15
2
10
1
0
0
Percent
Percent
5
-5
-1 -10
-2
-15 -20
-3 -25
-4
-30
2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 6-month MA, rhs Monthly Change, lhs Source: BMO CM & Macrobond
