Bond market rules all other markets
Abraham George Macro View
Why is the market so jittery, volatile and all over the place? We have been writing for a long time that this could be happening. Currently the bond markets rule all other markets for all known reasons. The ten-year US yield had nearly doubled since the beginning of the year (in just over two months).
The Fed Funds rate (the target rate which is set by the Fed) hasn’t changed. But the market interest rate (the rate determined by the market participants) has more than doubled. This surely is creating problems for markets and the Fed.
The concern is not that the economy cannot handle a 10-year interest rate of around 1.5%. It’s the fear that rates have risen too fast, and will still continue to rise. That fear is creating all the trouble. But then we all know, nobody rings a bell at the top.
The market is getting to the idea that the Fed is very wrong on the inflation outlook or to a view that the market does not require more reckless and extravagant spending creating more political and social instability. If this fear snowballs, the time is not far when some very long term holders in the US treasury markets (foreigners who think they are the most liquid and safest investments in the world) could bail out.
For Fed’s credit, they have been in control of the bond markets. From the last 12 years of actions everything suggests that they will maintain control of the bond markets. Unlike Greenspan, the current Chairman of the Fed is not a great communicator. Powell has tried to talk down the situation, has given promises of keeping interest rates low, and assurances that they see little to - no inflation risks. But the market is not buying it.
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There is also speculation that the Fed will revisit the “operation twist” strategy that they did in 2011. In 2011 they sold short dated treasuries and bought long dated treasuries. By flattening the yield curve and not buying any net bonds and not increasing any money supply they managed the situation. No doubt there was heightened volatility in the stock markets for a while but the net impact was stocks made a significant bottom and has never looked back. So we have to see how this will play out.
Equities
Currently markets are very news driven. Friday’s strong rally does not mean we are off to the races again. If there is more strength left as markets open on Monday it should be in the region of 3870 for the S&P and 13,400 for the NASDAQ. The next wave of selling could be very strong and sharp. It has the potential to break below the lows of Jan 29th.
Bonds
The active daily continuation contract traded down to 155^27 essentially meeting our long advertised level of 155^05. A short term snapback rally could start to relive some of the compression of the decline. Resistances are in the region of 160 and 161 ^25. The down move is still not over.
Euro
Contrary to our expectations the Euro did not hold the initial supports. This has opened many interpretations. Based on all other build ups on the fundamental side our hunch is the support at 1.1850 should hold to challenge the Jan 06 high of 1.2350.
Gold
Gold declined to 1688 virtually entering our target window. Considering the price patterns so far, think 1665 to 1670 should find support for a rally into the 1750 to 1760 region. But our bias is for still for further gold weakness taking it the 1500 handle.
Abraham George is a seasoned investment manager with more than 40 years of experience in trading & investment and portfolio management spanning diverse environments like banks (HSBC, ADCB), sovereign wealth fund (ADIA), a royal family office and a hedge fund.