Since the high yield mark set in August, the 10 year note has been on a terror, falling from a frog’s hair of 4.0% to a low of 3.09% last Friday post Employment Report. With the current yield at 3.19%, we seem to be caught in “no man’s land” with the most likely scenario being range bound between 3.10% and 3.25%. The move has been all about funds putting cash to work, given the Fed’s on hold at 0%, uneven economic data, deflation, questionable stock valuations, and positive seasonal tendencies as we approach year end.
Look at it this way, if you had 500 million or so to invest what would you do? Buy stocks after a 55% run from the bottom? Loan money to others or increase company investment, betting on a V shaped recovery? Or, buy treasuries which yield a real rate of return around 4.75%. Give me Uncle Sam’s full faith and guarantee any day or at least until there is no doubt about an economic recovery.
The 78 billion in treasury auction supply (how well it goes) will help to clarify the puzzle. The tactical bias would be to sell into the low yield levels, looking for a pullback into the treasury supply. After that, the direction will be a direct result of the appetite. For now, bond bulls look like they have room for desert. ISM Non-manufacturing business index was the “lone wolf” data release this morning, rising to 50.9 from 48.4. Keep in mind that any print over 50.0 shows expansion within business activity and is the first we’ve seen in 11 months.
One would ask, if the ISM index is above 50, why are bonds and MBS positive on the day? The devil is in the details as the prices paid component (gauge of inflation) dipped from 63.1 in August to 48.8 in September. Supports our case for deflation and a lower rate environment now and down the road. Currently, the 10 year note is up 7/32’s (yield 3.19%), stocks up 67 on the big board, and mortgage backs up 3/32’s in price on most interest rates.