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Treasuries: the game in town

Brouwer & JanachowskiFebruary 5, 2016

What a ride. Stocks were mostly unchanged on the week, as of Thursday afternoon. We have seen a range in the last few weeks of around +/-4%. The action continues to be in bonds where we’ll risk showing the same chart two weeks in a row (updated of course):

blog2416US_Department_of_the_Treasury

This is the Treasury yield curve compared to when the Fed said the economy was just fine and raised rates. The markets’ reaction was well, this says it all. All rates are down, with the Ten-Year at 1.86%. Real rates have fallen as well with the 5-year rate close to zero. Why?

  1. Fed seems split: this week we had three Fed members say remarkably odd things. Kick off with Stanley Fischer who said that low unemployment=inflation=tightening=recession…. ignoring the fact that we haven’t come close to full employment in eight years. So why bring it up now? Then from the Kansas City Fed we heard higher rates of inflation are on their way. And from the New York Fed we learned that monetary policy is too tight. In that confusion, the market made up its own mind.
  1. Treasury Supply: this is important. The latest estimate of Treasury Issuance sees $12bn less borrowing in coming months, with most of the reduction in the popular 5s, 10s and 30s tranches.  There’s more. The supply imbalance for safe Treasury assets is around $230bn this year and $65bn next.
  1. Weak economy: while we haven’t changed our recession call, this week’s data was not impressive. The two ISM indexes reported, and while we knew the manufacturing one was in trouble (but not dispersed as we noted here), the service sector was weak and the employment outlook fell sharply. Claims also rose.

blog2416fredgraph

All this meant that the outlook for higher rates faded, the dollar weakened and the demand for safe assets increased. We’re not convinced dollar weakness will continue. Zero and negative rates around the world remain and the U.S. dollar enjoys a rate advantage.

What’s a Bond Investor to do?: well, follow the adage that return of capital is as important as return on capital.  We’re managing to a dollar, sovereign and high credit strategy. It’s a balance to the volatility we’re seeing in risk assets.

Bottom Line: We don't have a catalyst in the markets. Recent poor results from energy stocks (expected) and financials (not so much) make us wary of over commitment to equities right now. As always, we are watching every twitch in the market.

Other:

The slightly dotty Kansas City Fed President sees inflation no one else can.

Austerity: can you grow your way out of debt burden? One person who did but probably wishes they didn't.

Why are the world’s largest fund managers meeting in secret?

When ETFs go bad. Not sure investors expected this.

Tech Bubble: One Unicorn in trouble.

And a pensioned unicorn that can’t seem to get a break.

--Christian Thwaites, Brouwer & Janachowski, LLC

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