Rate fate! Equities muscled ahead yesterday with the Dow making new highs once again. Continued good feelings from last weekend's trade progress with the USMCA (US Mexico Canada Agreement), an upbeat jobs number, and dovish Fed-speak are credited with the equity buying. All of the major indices were up but all closed well off their session highs due to what became the real news of the day: rates. Yes rates. Sleepy rates, which I insist on speaking about often, took center stage yesterday as yields surged to highs not seen in years. Specifically, treasuries started the session in a weak state in response to rising equities and receding fears of a financial crisis in Italy. Remember that US treasuries are often used as a safe harbor when things get rough and capital flowed into US Treasuries as this last Italian speed bump took place in prior sessions. Sprinkle in a few good headlines from dovish Fed governor speeches and bonds began to slip further, and by the time lunch was over (in NYC) 10 year yields were over 3.11%, which was the high end of their recent range. Then came the stops, the speculators, and the panic sellers. Stops are often set by traders seeking to minimize losses in trades gone against them. In the case of treasuries, there would be stops above the recent high yields which were 3.11% in 10 year notes and around 3.25% for 30 year maturity bonds. These stops would have been triggered all around the same time pushing yields on the back end of the yield curve up yet further. Next came the speculators who have been waiting to short bonds believing that rates were too low given the economic climate. The speculators were hoping to short into the negative momentum causing further weakness in the bonds. Finally, later in session, the news outlets decided to air the news of the bond selloff which caused panic selling by weak handed holders. “Weak hands” is a term of art in the industry and refers to traders who don’t have conviction and will typically change direction and close out positions very quickly if the situation appears to be headed South (or I guess North, if you they are short). What that all equates to is a sell off. Not one of epic proportions, but one that is notable considering that rates have been relatively quiet for some time. Let’s also remember that 10 year yields have not been this high since the summer of 2011. The yield curve shifted upward yesterday led by longer maturities causing it to steepen (that is a trade too, which may have also contributed to the selloff). Yields continued to slip overnight and will start today’s session at 3.21% for the 10 year note and 2.88% for the 30 year long bond. The 2/10 yield curve is currently at 33 basis points. I have often written about the tradeoff between yields of different types of risk assets, and higher yields on lower risk bonds will certainly compete with lower yielding, riskier equities. This will be a bigger factor going forward and will certainly contribute to weakness in equities, at least in the short run.
Today, we will get factory orders, which are expected to have grown by +2.1% after last month’s decline of -0.8%. Additionally durable goods orders are expected to have grown by 4.5% for a second month in a row, which is a good indicator that the economy is in a healthy growth state. Durable goods are higher ticket items that last a long time and they range from refrigerators to cars to medical devices. There is at least one more Fed speaker today, and the speech will certainly get more scrutiny than usual in the shadow of yesterday’s bond selloff. Traders will also spend the day sorting out the implications of a higher rate environment which will provide us yet another wide ranged, volatile session. One thing is for sure. Bond investors, who purchase bonds to receive fixed income payments will be happy to get better returns on their investments in the future while they eagerly await the maturity of their current lower yielding ones.