After a pretty good 3 yr note auction yesterday, today’s benchmark 10 yr auction was excellent. The yield of 2.342% was well below the when issued of 2.36%. The bid to cover of 2.58 was higher than the previous 12 month average of 2.52 and the best since June. Also of note and reflecting strength in the auction was that direct and indirect bidders took a combined 79% of the auction vs the one year average of 73%.
Bottom line, reflected in the chart below which is the net speculative short position seen in last week’s CFTC which showed record shorts in 10 yr note futures, the bearishness on Treasuries got extreme. On the economy, we know there is an extraordinary amount of optimism on the part of both large and small businesses and from the perspective of the consumers. I’m not yet going to say that a 10 yr yield of just 2.33% doesn’t agree with this assessment but say instead that if confidence ends up being right, if the stock market ends up being right, there is little chance interest rates are not much higher by year end. I consider this action in bonds to be a needed consolidation after the spike and helps to shake out the uber bearishness recently seen.
Bullishness remained extreme in the weekly II read but a bit less so w/o/w. Bulls fell to 58.6 from the ‘danger level’ according to II at 60.2 last week. All of the decline and then some went into the Correction side as the amount of Bears fell to just 18.3 from 18.4 last week. Thus, the bull/bear spread only fell by .5 pt. As stated a few weeks ago, over the past 10 years there has been only three time periods when bulls got above 60. The first time was October 2007 at the top of that cycle and then twice in 2014 and the market topped out for a while soon after. On December 13th 2016, the SPX cash closed at 2271.72 and yesterday closed at 2268.90 coincident with the stretched level of bullishness. Thus, in order to take another leg higher in stocks, sentiment most likely needs to cool down.
In the last two weeks of the old year and the first two weeks of the new year, it is always best to ignore the w/o/w stats on mortgage applications because the MBA does a terrible job of seasonally adjusting in a time period where activity is always highly influenced by the holidays. But, I’ll give you their numbers anyway. Purchases rose 6.1% w/o/w but still fell by a sharp 17.5% y/o/y. Refi’s were up by 4.4% but to a level that is 31.5% below last year. Higher mortgage rates have definitely had an influence on the industry. Coincident with the recent fall in Treasury yields, the average 30 yr mortgage rate moderated to 4.32% from 4.39% last week and 4.45% in the week prior. The spike in yields over the past few months needed a consolidation as bearishness got very extreme. That said, I expect a resumption of the upward move soon enough.
The headlines of the day will certainly be the President elect DJT’s press conference. But also of note today, Bill Dudley is speaking at 1:20 but on “Banking Culture From a Regulatory Perspective” so who knows if he’ll go off topic and mention monetary policy. While the Fed seems set on at least doubling the pace of rate hikes this year (I word that sarcastically), the question is when. Odds of a hike by the March meeting is only at 36%. As rates are still pathetically low at .625%, the Fed should be raising again at the end of the month but we know they’ve trained us not to expect much. The market is not fully priced for a hike until July. In the meantime, headline CPI is expected to print 2.1% y/o/y next week for December, a level last seen in 2014 and 2012 before then. There was a time when the fed funds rate was 200-300 bps above the rate of inflation. Oh have the times changed as negative real interests sunk into the Fed psyche as a main tool of policy beginning with Greenspan in the mid 2000’s.
Yesterday we saw a nice upside surprise to the French industrial production figure for November. Today we saw a beat from the UK and Spain. IP in the UK rose 2.1% m/o/m, about double the estimate of up 1% and was led by a rise in oil and gas production (more North Sea activity) and mining helped by the rise in commodity prices. Manufacturing production of 1.3% m/o/m though did also beat the estimate. The better data did nothing to help the pound though as its lower again as industrial production has essentially flat lined over the past 9 months. The index level for November was 104.7 vs 105 back in April.
Spanish IP was up by 1.8% m/o/m and 3.2% y/o/y vs the estimate of up .4% and 1% respectively. That y/o/y is the 3rd best of 2016. Spain continues to have one of the quickest rates of gain in growth in the Eurozone with about 2.5% growth expected this year as labor market reform put in place years ago continues to bear fruit along with the weaker euro helping exports.