Macro Extremes Alert – U.S. 10’s

U.S. 10 year bond yield are at ‘overbought extremes’.

At 2.41%, it’s kinda done or at the least, at the upper end of being so.

I’ll give a move to 2.6% (that downward sloping resistance line in the chart below) but I’ll say that you don’t want to be shorting bonds at these levels.

Beyond the subjective notion that short bonds is a crowded trade and the chart below showing a unison registration of a 70 RSI reading (it’s 12th visit in 30 years) with a 2.5 weekly standard deviation above the mean, my other work tells me that the 10’s are the most stretched since October 2018.

In fact, other than 2018 and now, we haven’t seen the 10’s this ‘stretched’ at any other time in 40 years of data.

Additionally, the U.S. 10 year bond yields have doubled in 8 months and quadrupled in 18 months.

If you think 2.4% is low compared to where we once came from, the quantum of this ‘recent’ move should count for something.

p.s. once again, tune in to the noise amongst the market pundits, chat rooms and the media again. ‘Today’s’ hyper-ventilation is now about falling bond market yields.

Similar to recent moments seen in Nickel, Oil, Crypto, Wheat, Chinese equities etc etc, consider the opposite side of what the crowd is crowing about.

It’s funny, I just can’t seem to remember ‘them’ saying anything when interest rates were 1%……

March 23, 2022

by Rob Zdravevski


Watching interest rates closely

Watching some macro signals today.

In the chart below, I’m watching the U.S. Year government bond yield.

Notice how over the past 6 weeks, the 10’s are making ‘higher highs’ and ‘higher lows’.

Now, they need to hold 1.265%. If they do, then they should test 1.385%.

If they break 1.385%, then 1.47% and 1.57% are next important levels to test.

Recently, rising interest rates have favoured cyclical and industrial equities, while falling yields have given the ‘technology’ stocks a boost.

September 10, 2021
by Rob Zdravevski

The economy is still healthy

The direction of the Copper/Gold Ratio (HG/GC) is a good indicator for checking on the health of the economy. Think of it as a thermostat.

It is also well correlated to the direction of the U.S. 10 year (the 10’s) bond yield. Often, the HG/GC precedes the move in interest rates.

In a recent post I wrote about the HG/GC’s relationship to the S&P 500.

Today, the short-term direction of the Copper/Gold Ratio has been down and so the 10’s (and S&P 500) have mimicked that.

The longer trend upward trend of the Copper/Gold Ratio remains intact.

Where this ratio trades to and its effect on the 10’s will determine the size of, and where the allocation of capital moves to.

Separately, (on a weekly basis) the 10’s have traded down to 3 standard deviations below its mean. Such a 3-sigma event has foreshadowed higher equity prices.

It’s at an acute point, however the equities bull market continues.

July 21, 2021

by Rob Zdravevski

Watching Interest Rates to Understand Equities

The latest chatter about the steepening of the yield curve between the yield of the US Government 10 year bond (minus) and the 2 year bond is no big deal.

That differential (“the spread”) is currently at 1.56%, 

(that’s how much the 10 year bond is yielding above the 2 year bond and it is represented in a plotted graph, we call the yield curve)

Yes, it’s the widest spread since September 2015, but it’s not extraordinary.

It has been twice that amount (3%) on several occasions over the past 30 years. (see chart below)

There is some exaggeration about how steep the curve is…it actually isn’t.

Don’t worry too much about that yield curve at the moment.

My story is about when the spread actually touched Zero (which is when the 10 year bond was offering the same yield as the 2 year bond) and not so much the actual spread nor the yield of the 10 year bond.

And then I have added comments to what happened to the equities market afterwards.

Example #1

In April 1998 the spread touched Zero,

but the S&P 500 continued to rise until the S&P 500 peaked in March 2000; some 21 months later.

A year earlier, in April 1997, the 10 Year Bond (“the 10’s) was yielding 7%. 

By April 1998 it had fallen to 5.6% (when the spread was Zero)…..

the yield would decline a little more, down to 4.4%.

By March 2000, it had climbed back to 6.66% to coincide with a peak in equities market.

Example #2

In January 2006, the spread was at Zero again, but stocks rallied for a further 17 months until the S&P 500 peaked in October 2007.

From that moment in January 2006, the 10’s rose from 4.3% to 5.3% on a couple occasions, reaching that same 5.3% peak in July 2007, just as economies were about to experience the ‘Global Financial Crisis’.

For a period of 6 weeks, the 5.3% yield did break above the downward sloping trend line (see the chart below) but the precedent of a Zero spread being registered 17 months earlier held sway.

Example #3

By December 2008, 10’s had fallen to 2% (although the spread didn’t flirt with Zero, it never went below 1.2%).

From this ebb, the yield doubled to 4% over the next 18 months (April 2010).

The stockmarket fell 20% over the next few months.

Example #4

Through stages of the GFC recovery, 10’s were back to 1.4% in July 2012.

Within the next 18 months (by December 2013), the 10’s doubled to 3%

The stockmarket rally was stifled and went sideways for 5 months.

Even though rates doubled, equities remained in a bull market because we never saw a Zero spread registered.

Equities resumed their rally as 10’s commenced a new decline in yields from 3% down to 1.7% over the next 14 months, being until January 2015.

Note: The United States Federal Reserve kept the Fed Funds Rate at Zero between 2008 and 2015.

Example #5 (the anomaly)

By July 2016, 10’s eased a little more to 1.35%. From there, they nearly doubled again (to 2.6%) within 5 months and then touched 3.2% by November 2018.

Although rates nearly trebled…..they never registered a Zero spread reading. Furthermore, the anomaly is that the 10’s yield broke above the sloping downtrend resistance line (see chart below), which gave the S&P 500 ‘carte blanche’ to rally….all until the 10’s yield crossed back beneath that (now and new) support line in the month of August 2019.

Example #6

In the next month, September 2019, saw another Zero spread registered. 

While absorbing an abrupt correction, the S&P 500 has soared and continually set new all-time highs, 18 months hence.

Today, the 10’s have Quadrupled from their 0.40% March 2020 low, to its current 1.72%.

Uncannily, we are 18 months further along since the spread touched Zero and we have seen an equity market participate in extraordinary gains…….

I will re-iterate…….the interest cost of government debt has Quadrupled within 12 months.

That matters to investors and to the government servicing the interest payments.

But we are at a moment, similar to the anomaly explained in Example #5.

Forget the ’spread’ and steepening yield curve, but let’s say the 10 year bond yield reaches 2% and decisively breaks above that sloping downward line, then it’s plausible that the S&P 500 rallies for a further 18 months.

This bullish scenario may represent the ‘last leg’ in the 11 year bull run which commenced at the March 2009 low.

Although, greater probability suggests (coinciding with fundamental valuations and various sentiment and anecdotal indicators) that the quantum of quadrupling interest rates will prove a greater weight on equities plight for further gains. 

This is the measured reason why I have shifted client equity portfolios to 35% cash position and hedged portfolios with put options. This was mentioned in my January 2021 newsletter.

March 21, 2021

by Rob Zdravevski

Why buy bonds at -0.01%?

Do you remember during the European debt crisis, which peaked around 2012, when the PIGS (Portugal, Italy, Greece & Spain) were being bailed out by the European Central Bank?

In the chart below, you can see the Portuguese 10 year Government Bond was yielding 14% at that time.

I didn’t have the inclination, acumen or guts to buy those bonds then and nor since.

But today, that bond has traded at a negative yield of 0.01%.

How times have changed.

Some investors have felt that such a yield is so ravishing that they decided to buy the heck out of those bonds to the point where they will happily receive a zero yielding return.

I can’t figure this out and nor do I have answer.
It’s simply an astonishing occurrence.

December 9, 2020
by Rob Zdravevski

The great U.S. corporate bond issuance

Singularly, you may not have noticed various U.S. companies either re-finance existing debt or importantly issue new debt, over the past year or so.
Collectively, it is a monumental amount of debt.

Cleverly, these companies have taken advantage of the almost perpetual low yields of the government benchmarks, upon which they can base their spreads against.

Companies such as Oracle, Amazon & Goldman Sachs have issued bonds either secured or unsecured against their equity at historically low yields; which is brilliant financial strategy for these companies.

With interest rates at such low levels, probability and cycles suggest that rates will rise in the coming 6 years or so.

When 10 year benchmark rates are 6% and not 2%, I can’t see a 10 year 2.5% coupon Oracle Corp. bond being redeemed early, meaning bond holders will probably suffer capital losses unless held until maturity. Just imagine holding a bond that yields 2.5% into the latter half of this decade while others are earning twice or three times that amount?

Although, we are seeing a great bond issuance cycle, capital markets will most likely miss out on the next re-financing cycle.

What happens then?

Perhaps, companies will payout maturing debt by selling their own shares, which incidentally, they accumulated in share buy-backs conducted in 2012/2013 using the cheap money that they obtained from the same investors who bought their bonds?

Listen to the market – China’s inverted yield

The spread between the yield of Chinese Govn’t 2yr and 10yr bonds have inverted. The yield that an investor is receiving buying 2 year maturing debt is higher than the yield from a 10 year bond.

Although the data on the attached graph only starts in 2005, an inverted yield curve signals stress in the credit market and leads to weaker equity markets. It is often a good indicator that precedes recession or a change in economic cycles.

It is notable that United States 2’s/10’s spread inverted in 1978, 1988, 2000 & 2006. Recessions followed within 12-18 months.

The trade to look at, is for a falling Australian Dollar. With this comes a rising US Dollar and falling commodity prices.

An inverted Chinese bond yield could spell trouble for the most crowded of “longs” because not many believe BHP, RIO and the Australian Dollar can fall – for China will apparently keep saving them all.

It is highly likely that China will still buy their products, but there is such a thing as cycles and although China has seemed to have avoided one in the past 15 years, the optimism in this post is to be ready to buy some bargains in Australia, China along with some commodities.

In the meantime, selling AUD and buying USD is hardly the worst trade to consider.

source - Bloomberg

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