We noted yesterday the Treasury’s weak auction, but this chart from Waverly Advisors puts yesterday’s sell-off in the 10-year into perspective.
Meanwhile, Mike O’Rourke of BTIG has some excellent thoughts on what it means that of late, the US government is now paying more for debt that blue-chip names like Warren Buffett:
In his note this morning, Gross listed the three criteria necessary for a nation to navigate the “structural headwinds” facing global markets today. When speaking specifically about the United States, he stated “But remember – my three conditions just suggest that a country can get out of a debt crisis by creating more debt – they don’t assert that the bonds will be a good investment.” He followed with “U.S. bonds may simply be a ‘less poor’ choice of alternatives.” From an outsider’s perspective, that might be interpreted as bearish a statement on Treasuries as one can expect from the largest bond investor in the world. We also believe that Gross does not love stocks so much, but just that he is bearish on bonds. Gross did spell it out, “Rates face a future bear market as central banks eventually normalize QE policies and 0% yields if global reflation is successful.”
There is heightened investor uncertainty about the inversion of the 10 year swap spread. Unchartered territory puts investors on edge. In the near term, it has been attributed to hedgers using treasuries for all of the corporate issuances coming to market. We have also noted the strong demand for corporate paper has helped to push those yields down. Longer term, Pimco’s “Unicredit Bond Market” will likely be with us for some time. The good thing is this is not a total surprise, at least it wasn’t to Gross.
We interpret these events as one of an increased belief in the recovery. For over a year, we have argued that Large Cap Corporate America was the healthiest and most liquid area of the economy, superior to the Government or Consumers. As belief in the recovery increases, the flight to quality bid in Treasuries slowly diminishes and Pimco’s “Unicredit” world emerges. Investors have every reason to have more confidence in a Warren Buffett or a Steve Ballmer. All of this being said, in order for the bond bear market to emerge and the rise in rates to be sustainable, the economic data needs to be there, or that flight to quality bid will re-emerge.
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