Bond Market Fails to Follow Stock Markets Sharp Rally

By: Levente_Mady

The bond market traded sideways last week in spite of the sharp rally in equities. The market received the bond auctions quite smoothly as it was supported by further rumours of potential Federal Reserve purchases of Treasury securities. Since the US Federal Reserve has already lowered their benchmark to the 0-0.25% range, there is not much room left for them to stimulate the economy with further rate cuts. As a result, bond traders are expecting the Fed leaders to announce a Treasury bond purchase program as early as at their next policy meeting on Wednesday, March 18. Most market watchers are familiar with the “Greenspan put” that got the economy off the hook every time it encountered a bump in the road.

The Greenspan put was supposed to morph into the Bernanke put as the Fed was supposed to have the answers for all economic ills. Unfortunately that has not been the case recently as monetary policy has lost its effectiveness as rates approach 0. So the re-birth of the Bernanke put will manifest itself through Treasury bond purchases in order to keep long term rates anchored. It appears to me that even if the Fed does not specifically put a time line on Treasury purchases on Wednesday, there will be some mention of it in the policy statement and the line has been drawn in the sand at the 3% level for 10 Year Treasury notes for now.

Bonds had an excellent tone once the auctions were out of the way until Chinese Premier Wen Jiabao opened his big trap on Friday morning regarding his concern about the credit quality of the approximately $1 Trillion US Treasury securities that China holds. It seems to me that in spite of being the leader of the most populous country on Earth, this guy is not the sharpest tool in the shed. OK, let's load up on a cool $1 Trillion of this crappp and then let's see if we can badmouth it so it blows up on us. Speaking of blowing up, I can best compare him to a suicide bomber who loads up with explosives and just before pressing the button the thought might cross his/her mind, that pressing that button might not be the best idea. This dude has some serious problems at home and I am just guessing that he is digressing to shift the focus from China 's domestic issues to something – anything – else. As per previous comments in this here column, China 's trade surplus is melting away the same way Canada 's surplus is (see comments below). Much has been made of the $2 Trillion reserves that China has in its coffers. Let's put this into perspective: that $2 Trillion works out to a little less than $1500 per Chinese capita. The total is a large sum, but the way the world is going, it may evaporate in a big hurry. The big question mark is what may happen once China starts running massive deficits? Does anybody expect to see Americans or Europeans lining up to buy Chinese debt?

NOTEWORTHY: The economic data was mixed last week. This was the first time in a while that we saw some numbers that exceeded expectations and the previous month's data was revised up. The Retail Sales report for February “only” declined 0.1% versus expectations of a .5% decline. This is not good news by any stretch, but along with the January revision from 1.1% to 1.8%, it is slightly better than expected. And before we start doing cartwheels in the streets, let's note that the year on year figure shows a massive 9% decline. Wee kly Jobless Claims drifted up 9k to 654k. The US Trade Deficit shrank to a new 7 year low of $36 Billion in January as imports continue to drop faster than exports. The shrinking trade deficit may be ok for the US , but it is definitely bad news for global economic activity as trade flows are imploding. Consumer Sentiment – as measured by the Michigan Survey – ticked up 1 point to 56. The Canadian economic data continues to deteriorate.

The Canadian employment report was ugly. 82k jobs were lost in February while the Unemployment rate jumped another half point to 7.7%. Just to make things worse, 111k full time jobs were eliminated, while 28k part time positions were created last month. The Canadian Trade Deficit ballooned to nearly $1 Billion in January – the worst number on record. Anyone who still believes that Canada is isolated from the world wide financial and economic problems needs to give their head a good hard shake. We are lagging but catching up. And contrary to Bank of Canada Governor Carney and Finance Minister Flaherty's recent optimistic comments, I do not expect that we will be leading a global recovery any time soon. Next week's schedule will be highlighted the PPI and CPI inflation reports as well as housing data and Leading Indicators.

INFLUENCES: Sentiment surveys dropped a little again but they are still very much in neutral territory. The Commitment of Traders reports showed that Commercial traders were net long 393k 10 year Treasury Note futures equivalents – an increase of 26k from a week ago. This is supportive for bonds. Seasonal influences are negative. The technical picture is damaged as the market managed to stabilize. 124 remains the line in the sand for support on the bond future. This key support managed to hold so far.

RATES: The US Long Bond future traded down a point to 126-07, while the yield on the US 10-year note increased 2 basis points to 2.89%. The Canadian 10 year yield decreased 6 basis points to 2.87% to trade below its US counterpart. The US yield curve was pretty stable as the difference between the 2 year and 10 year Treasury yield increased to 193 basis points - which is 1 basis point higher than last week.

BOTTOM LINE: Bond yields were stable, while the yield curve was unchanged last week. The fundamental backdrop remains pathetic, which is supportive for bonds. Trader sentiment is neutral; Commitment of Traders positions are supportive and seasonal influences are negative. My bond market view is neutral.

By Levente Mady
lmady@mfglobal.com
www.mfglobal.ca

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