The financial markets continue to swing from extreme to extreme in sentiment.
The markets were wrong at the beginning of last week. It’s likely the markets are wrong again.
Last week before a weaker jobs number for October and a slightly smaller than expected Treasury sale, everybody was short Treasuries. Leveraged hedge funds extended net short positions in the Treasury futures market to a record (records go back to 2006) just before the news, Bloomberg has calculated from Commodity Futures Trading Commission data.
“It feels like short U.S. Treasuries positioning was at an extreme last week, which was an accident waiting to happen,” Gareth Berry, strategist at Macquarie Group in Singapore, told Bloomberg. “Price action in Treasuries for the past few months was a classic case of a persuasive story feeding the price action, until it went too far, leading to an overshoot which is now correcting.”
Which explains the huge move in Treasury yields last week as the yield on the 10-year Treasury went from slightly above 5% to 4.50% in a matter of days.
I’m expected this trend toward lower yields will play out relatively quickly and we’ll return to a trend of higher yields as the global credit crunch continues.
Right now financial markets look like they’re overshooting again–in the other direction. Markets are now pricing in a first Federal Reserve rate cut in June with the expectation of almost 100 basis points of cuts by the end of 2024. A similar amount of cuts is priced in for the European Central Bank, potentially starting as soon as April. And the Bank of England is seen reducing the benchmark rate by close to 70 basis points.
In other words central banks are all about to start massive cuts to interest rates and rain money on the financial markets.
Can’t see it. Inflation in’t under control. The U.S. economy is strong enough so that the Federal Reserve isn’t likely to see a strong case for interest rate cuts soon. And the amount of debt, globally, requiring re-financing or issuance in the next 6 to 18 month is big enough that bond markets will have trouble handling the demands unless lenders get higher rates from borrowers.
It’s worth remembering that last the weak October jobs numbers were still above 150,000 jobs added in the month. And that the smaller than expected bond sales announced were only marginally smaller than expectations.
I think the one thing we can count on right now is that the financial markets will swing from one extreme to th other on minimal news. If you want to trade any of these swings, I’d say get ahead of the reversal and bet against the trend continuing for very long.