Bond Fund Flows

April 24th, 2014 9:10 pm

Merrill Lynch research on the flow of money into longer term bond funds:

More inflows to duration. Inflows into high grade outside of short-term funds further accelerated last week (ending on April 23rd) to $1.27bn as interest rates remained relatively low. There was also less of a rotation out of loans and short-term high grade funds, however, which we saw in the prior week. Outflows form loans funds fell to $0.16bn last week from a $0.32bn outflow in the prior week, while flows for short-term bond funds turned positive with a $0.12bn inflow from a $0.12bn outflow in the prior week. Hence, the inflows to all high grade funds rose to $1.40bn from $0.96bn in the prior week. Inflows to EM bond funds continued to decelerate, however, falling to $0.20bn last week from the recent peak of $1.81bn for the week ending on April 9th. High yield bond fund flows turned to a small $0.29bn inflow from a $0.32bn outflow in the prior week, while flows for equity funds instead turned positive (+$1.87bn) following an outflow in the prior week. Muni fund flows remained muted with a $0.31bn inflow, while all fixed income funds, the category that also includes government and mortgage funds, had an inflow of $1.90bn. Finally, money market funds reported a $4.46bn in inflows. -

On the Shape of the Yield Curve

April 24th, 2014 9:05 pm

I have been away from acrossthecurve.com’s sprawling and opulent headquarters today and this is my first chance to check markets and this blog. I just read the end of day piece by Richard Gilhooly at TD Securities (who is a friend and former colleague). He writes a brilliant piece on the “evacuation” of the 5 year point and how it is a precursor of carnage further in on the curve in the 2 year and 3 year. This is a must read and will make you cogitate on the shape of the curve.

Via Richard Gilhooly of TDSecurities:
Having just returned from vacation since the day of the long bond auction, the recurring theme has been out-performance by long duration assets and a mix of higher short/intermediate yields with incrementally lower absolute 30yr yields. In that regard, the new 5yr TIPs issue has traded in lockstep with the 30yr nominal bond, edging lower in real yield as 5yr note yields pushed 15bp higher. The correlation between 5yr TIPs and 30yr nominal should be an inverse one, rather than strongly positive, at least in terms of direction of the long bond.

The curve could be shown to be correlated flatter with higher inflation break-evens, if the direction was higher long rates and even higher 5yr note yields, but the divergence in market direction between 30yr nominal yields and 5yr notes illustrates that the thrust of the trade is more of an evacuation of the 5yr point on the curve into some hedged instrument to avoid the carnage that lies ahead for intermediates (and soon 2yr notes) once Fed tightening moves into the near-term horizon.

However, even in the case of a positive correlation between the curve (flatter–with higher yields across the curve) and higher inflation break-evens, the causality would be a presumption of Fed tightening to ward off those pervasive inflation pressures still bubbling through into TIPs even as yields rise. The opposite was true after the March 19 FOMC (mis?)communication, when TIPs were crushed on b/e after the Fed came out of the hawk closet (partial re-run of last May when Ben rushed into Tapering and shocked the market), which Yellen attempted to reverse with the Chicago talk and again was supported by the FOMC minutes.

Before leaving, I did argue that the minutes were in fact more neutral, that several members suggested the dots would send the wrong signal (so why raise your dot?) but that several others suggested that was entirely the point. On a rationality basis, the hawks definitely won out on that one. Hence, the post-bond auction flattening and again the bid to long bonds as equities recovered off their stumble into tax day and the Nasdaq bounced right off its 200-day.

And the TIPs auction? Buyers scrambled to buy them and paid 5bp through the 1pm level, recognising that they had become too cheap (and supported by April NSA CPI of 0.6%) and had not yet reflected the departure of Stein and Yellen promising low rates for longer. But there is still an inconsistency in long bonds and 5yr Breaks and the question (as it has been all year) is which is more relevant, 30yr yields making successive new lows for the year or 5yr note yields attempting to break higher as PMs exit their under water long carry positions and relocate into the safety of long bonds.

Carry on 5yr TIPs and breaks at the low of the year can explain the short-term foray back into TIPs, with a new 5yr benchmark and a large month-end extension next week. But the persistent bid to long bonds hints at the more fundamental nature of the curve flattening, that the inevitable rise in short rates that will follow the end of QE is the next washout trade and that the time constraints hanging over the Fed, which needs to get rates off the floor before the next economic downturn, is risking lower inflation from a base of already anaemic growth in the current expansion.

The 5yr anniversary of the recovery is June and the driving force behind Tapering and (soon) the need to hike rates is to avoid becoming the next Japan, which ironically raises the chances of that outcome. Escape velocity has not been reached, but the time-out has been called on extraordinary measures.

30yr Bonds and the US Dollar are reflecting this and soon the rally in long bonds will drag 10yr yields under 2.60% as PMs escaping shorter maturities balk at paying up for bonds and load up on 10yr notes, edging down the curve to intermediates. Getting 2yr notes up over 50bp is part of the process, but just like TIPs imploded last summer when they hit an air-pocket, the same is likely to happen to 2yr notes on a break of the 50bp area, followed by a volatile trade to the 1% area in fairly quick fashion.

Primary Dealer List Circa 1981

April 24th, 2014 11:57 am

A fully paid up subscriber forwarded this and it is a trip down memory lane and my early days in the bond business. These were the Primary Dealers in 1981 when it was the financial market equivalent of OPEC in its glory years.

Bank of America
Bankers Trust
A.G. Becker
Briggs, Schaedle
Carroll McEntee & McGinley
Chase Manhattan
Chemical Bank
Citibank
Continental Illinois
Crocker Bank
Discount Corp
DLJ
First Boston
First Interstate Bank Calif
FNB Chicago
GS
Harris Trust
E.F.Hutton
Kidder Peabody
Lanston
Lehman
Merrill Lynch
Morgan Guaranty
MS
NY Hanseatic
Northern Trust
Paine, Webber
Wm E. Pollock
Chas. E. Quincy
Salomon Brothers
Smith Barney
Dean Witter

7 Year Auction Preview

April 24th, 2014 11:50 am

Via CRT Capital an auction preview:

7-year auctions have recently met strong receptions with all three of the most recent auctions stopping-through for an average of 0.4 bp.

• Indirect bidding has been increasing at 7s, taking 43% at the last four auctions vs. 40% at the prior four.  Direct bidding has also increased over the same period, taking 24% of the last four auctions vs. 20% at the prior four.

• Investment fund buying has increased sharply to 41% of the last four auctions vs. 36% of the prior four.  In outright terms, that is $12.0 bn vs. $10.4 bn prior.

• Foreign investors as a % of the auction have increased recently, taking 15% of the last four auctions vs. 14% at the prior four.  In outright terms, that’s $4.5 bn over the last four auctions vs. $4.2 bn during the prior four.

• Technicals are bearish and stochastics continue to favor of higher yields.  Initial resistance will be the week’s yield low of 2.252% and then the 21-day moving-average of 2.240%.  Break that and we look to a volume bulge at 2.18%.  Initial support comes in at the high yield-close at 2.299% and then the recent range-top of 2.323% before the Bollinger top at 2.37%.

We’re inclined to play the averages and note that this benchmark has a strong tendency to tail when 2s and 5s tail do beforehand (73% of occurrences since the 7-year was reintroduced in Feb ‘09). The most relevant risk is an outsized Direct award – although this bidding group has been tame this week, unlike March’s strong bank-inspired demand. Volumes have been average in the sector at 101% of norms for an auction day, but with a weak marketshare at 11% vs. 13% average.

Wood Jay, Treasury Dealership Trader, notes that the issue is cheap, similar to the 5-year yesterday and so the tail at that auction might prove telling.  He adds that we’d need to price-in more of a concession from here for a tight auction and otherwise at current levels he’s expect a lackluster takedown.

Swaps

April 24th, 2014 10:31 am

Swaps are locked in a very boring range as they have been for the last two weeks. Spreads are probably 1/4 basis point wider today. One trader noted that with the incorporation of the rolls 5s and 7s optically look very tight (5s at 7 3/4 and 7s at 5 1/2). With spreads that narrow he said traders have a propensity to pay and he thinks that is the resting trade in that market.

Corporate Bonds

April 24th, 2014 10:17 am

Corporate bond spreads are unchanged to a tad firmer as they have been most of this week. My favorite source in this sector reports that there is no backing off and that there is a huge pool of money seeking safe sanctuary in the 3year to 10 year sector. He notes that on many days trading is light until late in the day when frustrated buyers end up lifting the offered side.

He pointed to the Citibank perpetual from yesterday as an example of the frenzy for quality paper. Citi sold  $1.75 billion of a 10 year non call fixed to floater perpetual deal. The initial price talk on that deal was around 6.80. The deal priced at 6.30. No typo there and reflects the irrational exuberance of credit buyers. Some day it will end in a vale of tears.

MBS

April 24th, 2014 9:57 am

Mortgages opening tighter to Treasuries with 30s 1 to 2 ticks better and 15 2 ticks better. One trader noted slightly lower prices and slightly steeper curve as catalyst for some modest buying.

Range Trading

April 24th, 2014 7:25 am

The folks at Bloomberg news publish a wonderful synopsis every morning of the market in a l piece entitled US RATES/CREDIT DAYBOOK. They have included a very interesting factoid on the trading range in 10 year notes. The authors, James Holloway and Elizabeth Stanton, note that the 25 basis point trading range on the 10 year note for the past 12 weeks is the smallest in the last two decades.In only three other periods has the range been less than 30 basis points.

Via Bloomberg:

* 10Y yield’s 25bp range over past 12 wks is smallest of past
two decades; in only three other 12-wk periods (one in March
2013, two in August 1998) has 10Y yield range been less than
30bps

Seven Year Note When 2s and 5s Tails

April 24th, 2014 7:14 am

David Ader of CRT Capital has an interesting data point which is relevant to the auction today. He notes that since the reincarnation of the 7 year note in 2009 there have been 11 occasions when the 2s and 5s each tailed and that led to a tail 73 percent of the time on the 7 year note which completes the cycle.

Via David Ader of CRT Capital:

For some historical context, we looked at what has happened at 7-year auctions in the wake of tails at 2s and 5s.  Since the 7s were reintroduced in February 2009, there have been 11 occurrences (excluding this week), so the sample-set it too small to be truly statically significant, but it’s worth a look nonetheless. When 2s and 5s both tail, 7s also tail the vast majority of the time (73%) with an average tail of 2.3 bp.  That said, there was a stop-through in Jun ‘13 at 0.7 bp and one on-the-screws stop in Dec ‘12.  Beyond the limited sample-size, the other meaningful caveat we’ll offer is that we have not see tails at all three auctions since Jun ‘12.  Said differently, this triple-tail pattern held 100% of the time through Jun ‘12, but didn’t hold at the two most recent occurrences.

April 24 2014 Opening

April 24th, 2014 7:03 am

Prices of Treasury coupon securities are virtually unchanged from levels I recorded at 830PM last evening (in  fact the yield on the 5 year note is the same). Equity markets are mixed with the Nikkei notably lower but other markets higher. In Europe a stronger than expected IFO number has given equities a shot in the arm. The IFO beat expectations of a decline (fueled by Ukraine uncertainty) and increased to 111.2 from 110.7. One analyst noted that there was a real spike in business sentiment on capital spending. ECB major domo Draghi delivered a speech celebrating the 200th anniversary of the Dutch central bank and once again noted the importance of the currency in policy decisions.

The yield on the 10 year note has increased to 2.703 from 2.701. The yield curve is mixed. The 5s 10s spread is at 173.6 versus 173.3 at 830PM. Please note that the roll into WI 5 is about 3 basis points so roll adjusted versus yesterday morning we are about one basis point flatter. Similarly 5s 10s is at 95.4 and roll adjusted that is about 0.7 flatter than at this time yesterday. The 10s 30s spread is clean and need no adjustment and is 0.1 basis points flatter than it was twenty four hours ago at 77.9 basis points.

Clients were better buyers overnight. Real money in Japan bought 5s and 7s. Middle East based clients bought 2s and 3s and central banks bought 10s.

In the US today we receive data on initial claims which should carry some Easter holiday distortion as well as the always volatile report on durable goods.

Today the Treasury will complete the weekly auction cycle with an auction of 7 year notes. The issue is very cheap on the curve. The 5s 7s 10s spread is sort of boring and not subject to a lot of volatility. If we include the WI 7s in the calculation that spread is about 16 basis points. I have not clocked it that cheap since April 4. In addition all of the belly spreads remain at multi year lows against the bond. In terms of absolute yield the market as measured by the 10 year note is about dead center in the 2.82 to 2.60 range which has lulled participants to sleep. I am agnostic on the auction today. The issue is as I note quite cheap on a relative basis but the market is mid range and not screaming to be bought. The 5 year note is similarly cheap and there is no groundswell of enthusiasm driving its yield lower. I think that this auction will go reasonably well at 100PM but I do not see where we will find follow through buyers to move yields lower. In addition the equity market has received support from Apple’s earning and that will weigh on sentiment as indices drive to the highest levels in the annals of human history. So I think I will pass on this one and wait for a chance to buy a tad cheaper later.