With the steepest global yield curve in history it appeared in mid 2009 as though we were going to go on the credit binge to end all credit binges.  We were going to see inflation of eight gazillion percent and gold was headed to $50,000 as we went back to the gold standard.  As we now know that is not what happened. Instead banks bought Treasuries and there has been a massive contraction in lending as borrowing.  Instead of massive amounts of real growth the record steep yield curve instead brought with it a credit contraction that appears to be slowly but steadily sapping the energy from this so-called recovery.

Looking at the global GDP weighted yield curve right now you can see that since April of 2010 long term government rates have been steadily coming down as the short term rates are close to zero percent in many developed nations, which of course make up the bulk of a GDP weighted yield curve.

Global GDP Weighted Yield Curve

What is obvious to us when looking at this chart is that we are in a slow to negative growth environment for the foreseeable future.  We see this in both the economic data as well as in the markets themselves with stocks showing increased volatility and bond yields of all maturities hitting new lows or close to near lows. Until we start to see signs of real growth we expect the curve to continue to flatten, primarily on the long end.   One potential trade to take advantage of declining long bond yields is to either buy the long bond or buy TLT the 20+ year Treasury ETF. While we expect pullbacks and corrections, we expect long term Treasuries to continue to do well as an investment over the coming several months and maybe even the next few years.  Yes, yields are low but they can go lower.

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-In our model portfolio we are long TLT

Take a $1 trial of The Macro Trader to receive unbiased actionable research.

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Some of the more useful liquidity indicators are the different money market spreads.  Typically when the financial system is feeling stress  we will see spreads rise as banks become hesitant to even lend to each other due to counter party risk and general uncertainty.  We saw this in the 1987 crash, in the 90-92 recession, in the bond market route of 94, in the .com crash, and then in the crash of 2008.  A rise in spreads does not guarantee a crisis or crash but we have seen higher spreads during each crisis.

Right now we are seeing what could be the beginnings of a new liquidity crisis or maybe just the second leg of the last crisis.  If spreads were rising just due to a weakening economy then we would not be overly concerned as these events take some time to really move lower.  Right now however we have a huge mess that goes by the name of the EU.  We are not necessarily saying that 2008 part 2 is upon us but we are saying that this is a real cause for concern, basically the rise in spreads is anything but bullish and as it reinforces our view that this is not just a normal correction but instead could be the start of something a lot worse.

Money Market Spreads

Happy Trading,

Dave@TheMacroTrader.com

Take a $1 trial of The Macro Trader to receive unbiased actionable research.

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One of the strongest inflation/deflation indicators is the bond market.  When inflation is expected to be high yields tend to go up and when the market expects deflation/disinflation yields tend to be low.  So what are the markets telling us right now?

First lets look at the two year yield.  After all if hyper inflation is right around the corner it would make sense that we might see some of that in the short end of the curve.  As you can see in the chart below the 2-Year is not signaling higher inflation anytime soon.

2-Year Treasury Yield

Maybe looking at the long end of the yield curve would give a signal.  After all if gold is climbing inflation must be almost here, right?  Looking at the chart it would appear as though the market is not expecting much.

30-Year Treasury Yield

Lets give this all one more chance.  What are TIPS showing us?  Surely if hyper inflation is upon us inflation protected bonds would give us a sign.  Looking at the 10-Year breakeven rate it appears as though inflation expectations are in fact dropping instead of rising.

10-Year Breakeven Rate

Apparently many investors are reading things a bit wrong.  Gold is not going higher due to fears of imminent inflation.  Right now gold is almost purely a currency trade right now.  With the problems in Europe investors are scared of government and instead have been going to the shiny stuff as a perceived safe asset.

Inflation will come at some point down the road but it is not right around the corner.  Whether you are looking at bond yields, commodity prices, the CPI, housing, or Fed statements we are seeing the same signals, and they are almost all pointing towards deflation/disinflation and not inflation.

Happy Trading,

Dave@TheMacroTrader.com

Take a $1 trial of The Macro Trader to receive unbiased actionable research.

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In the investment world it should be no surprise to anyone anymore that outlying events actually happen with a decent amount of regularity. Looking at the past 12 years we have had the Asian Contagion, Russian Default, LTCM, .Com crash, housing crash, and the subsequent crash of everything else. Most of these are one in a gazillion year type events and yet they all happened inside of 12 years. Statistics while useful, are not able to perfectly model the real world.

So mixing stats with history let us look at the MOVE Index. The MOVE Index, essentially the bond markets VIX, typically trades between 128 and 79. Anything outside of those two lines is at least one standard deviation from the mean. As you can see in the chart below we are currently more than one standard deviation below the mean and look to be headed lower. (Click on chart to enlarge)

MOVE Index

Of course the interesting thing about the MOVE Index is not what level it is at but what tends to happen when it reaches certain levels.  Essentially whenever the MOVE Index drops below one standard deviation something blows up. Apparently bond market investor complacency is a better gauge of “too complacent” than other volatility gauges.

Drops below the lower one standard deviation have preceded the following events

-First Gulf War

-Asian Contagion

-LTCM bailout/Russian Default

-.Com tech crash

-Housing/Credit crisis

While it is not a crystal ball, see the extended period below one standard deviation preceding the credit crisis, the MOVE index is still a good risk gauge with a solid track record of saying investors are too risk averse or that we are too complacent and therefore not really aware of the risks on the horizon.  Consider this the yellow light, its not saying stop but its not saying go either.

Happy Trading,

Dave@TheMacroTrader.com

Take a $1 trial of The Macro Trader to receive unbiased actionable research.

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10-Yr Swap Spreads hit their lowest level since 1988 on 3/9/10 hitting 3.25.  How many more days until they go negative? (Click on chart to enlarge)

10-Yr Swap Spread

Go short Treasuries, its the most obvious trade ever right?  While they might go up or down the MOVE Index continues to forecast less and less volatility, which at least to us indicates that the market is not expecting yields to change a whole lot anytime soon. (Click on chart to enlarge)

MOVE Index

Not sure if Chanos is right on China being in a huge bubble, but looking at the chart it appears as though at least a few investors are less than bullish. (Click on chart to enlarge)

FXI China ETF

We just crossed the one year anniversary of the current rally/bull market the other day.  Over that time on a weekly closing basis the SP500 is up over 66%.  This has been the largest one year rally in over 60 years.  We are starting to hedge our long exposure as we are currently cautiously bullish. (Click on chart to enlarge)

SP500 1-Yr Rolling Returns

Back in December we shorted the Euro on the basis of the EU being weak, overvalued, and sentiment becoming far too one sided.  In these pages we also looked at buying the USD on a technical basis. Looking at the USD and T-Bills however shows another reason for the USD rally. (Click on chart to enlarge)

US Dollar and T-Bill Yield

Happy Trading,

Dave@TheMacroTrader.com

Take a $1 trial of The Macro Trader to receive unbiased actionable research.

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Since the Match 2009 bottom many correlations have held extremely well.  We covered one in a previous post titled “US Dollar Correlation Breaking Down” and other ones here.  We can now add one more broken correlation to the mix.  TIPS and GOLD have been trading very much inline with each other over the last nine months or so.  The primary reason for the correlation is that since they are both seen as inflation hedges they should trade together.

As you can see in the chart below gold and TIPS have trade very much in line for most of the last nine months.  Over the past two weeks however the two instruments have diverged with TIPS going higher and gold going lower. 

GLD-Gold ETF and TIP-TIPS ETF

So the big questions are why are these diverging and how can we make money from it.  You irst have to decide if you think inflation is going up or down and if you think TIPS and Gold are good inflation hedges.  If gold is a good hedge and you think that inflation is going to increase then you would want to be a buyer of gold.  If you think that inflation is set to decrease or that inflation expectations are overdone then you would likely want to short TIPS.  The other main way to trade this is to bet on a convergence and a return to correlation.  To take advantage of this you could buy gold and short TIPS.

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-No positions in the securities mentioned.

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It has been a while since the last time we posted our global GDP weighted yield curve.  While it has been months it might as well have been a day as nothing has really changed.  After being inverted for all of 2007 and most of 2008 the yield curve flipped and became extremely positive as central banks worldwide lowered short term rates.  You can see this very clearly in the chart below of the G-10 nations short and long term rates. In spite of Australia raising theirs, short term interest rates remain extremely low everywhere else.

G-10 Short and Long Term Interest Rates

Another way to look at interest rates and in fact the title of this post is by using the global GDP weighted yield curve.  In the chart below you can see the global yield curve.  While it has fluctuated it has essentially gone nowhere for the last eight months.

Global GDP Weighted Yield Curve

So whats The Macro Traders outlook?  We think that things will remain more or less the same for most if not all of 2010.  On the deflationary side banks have not started to lend, real estate is not going up anytime soon, debt deleveraging is in overdrive, unemployment is as bad as ever, etc.  On the inflation side commodities are up, stocks are up, and bonds are up.  At best we would call this a standstill.  So while we could envision long term rates going higher on credit risk, yes we think that sovereign debt is full of credit risk, we think that short term rates will remain low for most if not all of 2010.

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-The Macro Trader is long TLT

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While many investors are calling for a large drop in long term Treasuries we are currently seeing a good risk reward trade to the long side in the long bond.  In the chart below you can see our reversion to the mean chart on the 30-year Treasury yield.  When it is stretched to the downside things are bearish and when it is stretched to the upside it is bullish.  Right now it is stretched almost 1.5 standard deviations away from its historical mean which usually leads to a move lower in yields and a move higher in bond prices. (Click on chart twice to enlarge)

30-Year Yield Reversion to the Mean Chart

As you can see in the chart below of the 30-Year Treasury yield we are at the top of a long term downtrend in yield.  Each time since the 1987 that yields have hit this line they have gone lower.  Eventually this will stop and yields will breakout to the upside but if history is any guide and the trend continues than at least for now yields are once again headed lower. (Click on chart twice to enlarge)

30-Year Treasury Yield

Finally lets look at the LT 20+ year Treasury bond ETF.  As you can see below it has found support over the last seven months in the highlighted $86-89 range.  On the upside we have resistance around $98.  The risk to reward is quite favorable right now as we can risk $1-2 with an upside around $9.  (Click on chart twice to enlarge)

TLT-20+ Year Treasury Bond ETF

So while this may be the time that Treasuries tank and yields go screaming higher we doubt it and are modestly positioned to the long side.  Eventually we will be shorting Treasuries but not until yields break out and end the trend that has been in place for over 20 years.

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-The Macro Trader is currently long TLT

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We keep hearing that long term Treasury Bonds are going to tank and that we need to get short before they fall off a cliff.  While this may very well happen, we doubt that it occurs anytime soon.  We are not alone in this view as Bill Gross and the gang at PIMCO seem to agree.  While some argue with his view of a new slow growth period the market does not seem to have an issue with it.  Not only has Helicopter Ben said that the Fed is not raising rates anytime soon, but market indicators are saying the same thing.

One Treasury indicator that we use is the MOVE index which is a  “yield curve weighted index of the normalized implied volatility on 1-month Treasury options. It is the weighted average of volatilities on the CT2, CT5, CT10, and CT30.”  As you can see in the chart below it has been falling since July as the market has come to the realization that we are in for a slow growth period and that the Fed is not going to raise rates any time soon.

MOVE Index

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-The Macro Trader is currently long AGG

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: Interest Rates and the MOVE Index
URL: http://www.themacrotrader.com/2009/11/18/interest-rates-move-index/

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While a lot has been made of the RBA raising Australia’s short term rates over the last week the fact is that most of the world is not doing quite as well.  Whereas Australia actually has some inflation the United States, Japan, and Europe are still not growing and rates are likely to stay around their current levels for at least a few more quarters.

Australia on the other hand was able to avoid a large part of the current global recession by supplying Asia, namely China, with commodities.  As you can see  in the chart below the short term rates have climbed but in spite of this the long term rates are still basically unchanged. (click on chart to enlarge)

Australia Interest Rates

Looking at the G-10 as a group we can see that rates are low and aside from Australia and New Zealand rates are essentially unchanged for the past six months as central banks continue to fight deflation and disinflation.  The trend is flat and likely to stay that way. (click on chart to enlarge)

G-10 Short Term Interest Rates

With the current rally and all the talk of inflation you would expect that long term rates would be climbing but instead they are flat to trending lower in every single G-10 country.  Treasury bonds night be in the bubble of a lifetime but we are not seeing that yet with lower rates and extremely slow global growth, especially in the developed world. (click on chart to enlarge)

G-10 10-Year Interest Rates

If you want to see a cleaner chart with the average G-10 long and short term rate you can look at the chart below where we have taken a simple average of G-10 long and short term interest rates.  As you can see everything has remained the same for a few months now. (click on chart to enlarge)

G-10 Interest Rates

Finally lets look at the whole investable world.  As you can see in the chart below the Global GDP weighted yield curve has been flat since May 2009 with very little change.  If inflation is hitting the world right now then it would appear as though bond investors are clueless.  In our experience bond investors are rarely clueless and we are inclined to bet with them.  Right now we are looking at potentially re-entering our long bond trade as investors come to the realization that we, along with investors such as PIMPCO (maybe its PIMCO but the way that Bill Gross ran the Fed last winter we can’t help ourselves) , see slow to negative global growth over the next year and probably for the next few years as the worlds financial system rebuilds, assuming we get that far. (click on chart to enlarge)

Global GDP Weighted Yield Curve

Happy Trading,

Dave@TheMacroTrader.com

Disclaimer-We are long some GLD, DBV, and HYG

If you’re getting value out of our posts, you can do us a favor by linking to us and mentioning The Macro Trader to friends and co-workers. Here’s the link information for this article:
Title: G-10 Interest Rate Trends
URL: http://www.themacrotrader.com/2009/10/16/g-10-interest-rate-trends-macro-trading/

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