The Treasury market is trading slightly lower this morning as investors try to determine what to do next. My apologies for the absence the last couple of days, I was tussling with something called Michael. Now that I am back, look what you’ve done to the place! I read somewhere that the big equity selloff was the fault of the bond market, that higher yields and the Fed were the reasons why investors left the market in huge numbers. The last time I checked, almost every analyst that one could hear from was predicting, mostly in error, higher interest rates, but also higher equity prices as well. Higher interest rates were always going to be the subject on rising inflation. The Fed, to its credit, predicted inflation would come back and that they would respond to limit its growth, which they have done. Now you can debate whether they are taking more aggressive stance than they need to, but the messaging has been consistent all along the way. So here we are, still with strong economic fundamentals, very low interest rates, mildly increasing inflation, and somebody just yelled “fire” on the exchange floor and a large number have headed for the exits. But the money isn’t really going to bonds either. This week we have seen the yield on the 10-year note drop 6 basis points, after rising 40 in the previous three weeks. Spreads are widening in credit and the yield curve (2’s/10’s) has widened to 32 basis points. The auctions aren’t showing demand for Treasuries either. The 3-year or the 10-year note sales were terrible, and we will have to endure $15 billion of 30-year bonds today. The last 30-year bond auction saw good demand, and sold at a yield of 3.088%. Today it looks more like 3.35% and the demand could be critical to the near-term future of the market. Yes China could be an issue, no the dollar isn’t a problem here, and earnings look to be just as promising as they were last week, so let’s just take a breath and try to stay focused on the fundamentals. For the bond market, you should embrace the volatility that you have been clamoring for the last two years. For the equity market, most everyone knew that valuations were ahead of the curve a bit, and if so, this is likely a short-term correction vs. a fundamental breakdown leading to a total miscalculation in where prices should be trading. Whether it’s a fundamental breakdown or a technical one, in my opinion, it isn’t the bond market’s fault that we are seeing this occur. The Fed is doing exactly what we thought they would do if inflation reared its ugly head. Now that it is here, we shouldn’t be surprised at the reaction or potentially, the overreaction.
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