US02Y trade ideas
The US02y a boon for equity bulls
The early month of October began with a myriad of experiences when the equity market went leaching in the red after a break from the long bull run since February. The DJI shed more than 600 points in a single session as risk-on mode eroded unconventionally as investors sought catalysts that precipitated the downfall. The sneeze that began in the US gave a cold to the entire world and for 2 respective days multi assets globally were on a downside spiral. What lingers in many traders minds is how comes that move was not anticipated? and what lessons do we juice out from this new norm of flash crashes? The US02Y has formed technical structures that unravel this conundrum. The FED rapid rate hikes which positively correlate with the US02Y are about to come into a halt as the wedge structural breakout is likely to consolidate after an impressive 5 year bull run as the tightening phase of the business cycle comes to an end. On the other hand, more inflows on equities will pour down as investors urge for risk grows due to the change in monetary policy . Nevertheless, a recession cant be ruled out of the table as the US-China trade war simmers there in derailing the health of the global economy and induce fear across assets all over the world if a resolution wont be met.
US02Y isn't playingDo not forget Yields are nothing other than yield to maturity and pre-tax based on the ask side of the market and is not messing around!
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The 2y yield at 3% is more important than the 10y yield at 3%...Charting the LOG of the US 2y yield (blue line) compared to that of the US 10y yield (red line) here shows the heavy move up in the 2y compared to the 10y. This, in my opinion, is very important because a 2y yield at or above 3% will likely drive short-medium term market reaction.
Some of my thoughts on the 2y, 5y, and 10y points of the curve for context:
• The timing of a hike primarily drives the 2y yield (or 1y spot compounded by 1y1y) while the pace of hikes drives the 3y yield (2y spot compounded by 2y1y) and 5y yield (3y yield compounded by 3y1y and 4y1y).
• If you hike sooner then you don’t need such a fast pace of hiking (flatter 2y5y). Conversely, if you wait too long, then you have to increase the pace to catch up (steeper 2y5y)
• The 10 year yield is the ultimate benchmark for the bond market or anyone quoting or looking at rates. Key drivers such as inflation, wages, GDP and market risk on/off sentiment drive this part of the curve.
While we have certainly seen a decent back up in US 10y yields, looking at the trajectory of the US 2y is probably more important. Why? The short-end has immediate effects on borrowing and lending and when the 2y level is currently near 2.5% that has to be a cause for some concern for tighter financial conditions and more expensive credit.
Looking at the LOG trend-line for both the 2y and 10y, if the current momentum and pace continues, then the 2y yield should likely meet the 10y yield sometime towards fall of 2018 i.e. a flat 2s10s curve and a 2y yield above 3% - my point is the 10y above 3% won't be the risk-off indicator, the 2y above 3% will be.
German 2y Yield to go higher (US2Y vs GE2Y yield sprd too wide?)US 2y yield (blue line) vs GER 2y yield (red line)...The spread is immensely wide as the FED has been in a hiking phase wile the ECB still continues to apply a "whatever-it-takes policy".
Eventually the ECB policy will have to roll back and front-end yields will react by backing up.
I believe the German 2y yield will eventually move higher and lead the narrowing of the US-GER 2y spread gap.
This also makes the case for a Eurozone (i.e. German) curve flattener attractive at these levels.
US Government Bonds getting hotUS Bonds getting hot, not boring at all. Here 2, 5 and 10 Yr Yield comparison.
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Verifying the consolidation; USDJPY, CPI and US GOVT. 2Y YIELDSThe Chart is of the 2y Govt. Bond yields which is positively correlated to the CPI and to the USDJPY pair, with correlation coefficient of >0.8. This is because, inflation is directly related to debt and investment yields and Japan is the second largest US debtor. All three charts are consolidating which would mean that there's still a fog of uncertainty into the future of the greenback. A new administration, the Yen's unresponsiveness to stimulus and a US inflation of 2.4 are all contributing factors.
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This sell signal means: buy US2y vs sell SchatzBuy the US/German 2y bond spread!
Shd the Schatz yield itself retest the -0,72/-0,78 range again, then it will likely be an outright sell too! (pls see lower panel referring to German 2y yield)
US/German 2 year yield spread - Watch price action at the cloud!US 2y Note yield: 1,256 %
German 2y Schatz yield: -0,808 -> yes, it is still deep negative :-)
Spread between the two markets are at highs, trading around 205 basis points.
Reasons we all know: FED started to hike, while ECB is still sticking to its NIRP and QE policies. However this will change one day, and then the spread collapse will be quick and sharp.
Technicals to watch:
Weekly:
- Bullish trend, which means US2y being sold while Schatz is still extremely strong bid, so the spread goes wider, more positive.
- Ichimoku is bullish, but the spread is a bit distant from its 180 bps equilibrium.
- Heikin-Ashi shows indecision. A doji candle this week, haDelta crossed up, haDelta+ has not yet as that reacts later. All quantification tools are below their center lines.
- EWO is bullish
- Depending on next few weeks price actionaround Tenkan Sen (green line - 9 weeks average), there is some possibility for a small H&S pattern to develop. (unless it spikes much higher above Tenkan)
Daily:
- Ichimoku is neutral: Price is in the Kumo cloud, between flat Tenkan and Kijun. Tenkan and Kijun are also at the level of the cloud. Forward Kumo is thin.
- Price retested Kumo from the highs, now we see some consolidative spike back to Kijun. Not bullish until the spread holds below 210-213 bps.
- Watch Heikin-Ashi signals and price action in the red rectangle. A break below 200 bps could open space to spread tightenning towards the 180 bps weekly equilibrium.
haOscillator looks topish, haDelta may turn lower as well.
- EWO is bearish: my basic approach is that until price is below Kijun and EWO is red, I only look to sell spikes to supp/res levels. Yesterday I managed to put on a small short at 209 bps. I will size it up in case of a lower break below 200 bps.
The big short on this spread is still far away. That will only happen when ECB really steps on the break and rises base rate back to at least 0 %. But a small short might be around the corner.
US 2-year yield: Former resistance offering supportThe yield found support at 1.28% (former channel resistance) yesterday and has staged a rebound to 1.33%.
The major averages - 50-DMA, 100-DMA and 200-MA are all sloping upwards and nicely aligned (one below the other) suggesting the long-run view remains bullish.
long usdSee the liltte reverse , 3year bond yield auction is selling at 1.43% let's see 2year yield 1.7% . assuming usd will start to higher from this point, long dollar against jpy,eur cad aud nzd would be a nice trade.
