Do you know what to do when US stocks fall? You buy the dip, of course.
Do you know what to do when Treasurys slide (i.e. yields rise)? You buy the dip, of course.
This is a market where “buy the dip” is no longer a derogatory reference to the knife-catching propensity of retail money. In fact, “buy the dip” is now the rule. Because if you don’t buy it, some central banker out there will, and they’ve all got magic printing presses.
Any time markets hit a bump in the road, it’s basically a license to print money - both figuratively and literally. Figuratively because you get a virtually foolproof opportunity to frontrun the central banker bid and literally because those central bankers get the excuse they need to add more stimulus. Here’s Bloomberg’s Richard Breslow speaking to this point:
“Tomorrow we get the latest installment of ECB President Draghi’s whatever it takes drama. Virtually no one expects changes to any of the top-line numbers. Some have even described this meeting as a non-event. This misses the point. His task will be to make sure investors are crystal clear that the central bank will remain furiously at work in the markets to achieve their ever elusive mandate. The question of will they do more is moot. They are doing more, constantly. And there are no signs of an end in sight. Only that it will get more extreme. No surprises, just sheer relentlessness.”
Yes, “sheer relentlessness,” which, as we noted earlier today, is driving yields on EUR corporate credit into negative territory.
Do you know what happens when all semblance of yield goes away in one market? That’s right, the money just flows to where there’s still some yield left and thanks to a growing divergence between a relatively hawkish Fed (and we use the term “hawkish” very loosely) and a uber dovish ECB and BoJ, that means flows into US fixed income.
As BofAML points out, you can see this showing up in TRACE data:
“For a high frequency indicator of foreign purchases of US corporate we like ‘Dealer to Affiliate’ trading volumes based on TRACE data. This approach exploits that TRACE data categorizes counterparties for each corporate bond trade as either dealer to customer, dealer to dealer or dealer to affiliate. While the first two counterparty types are self-explanatory, the third “affiliate” type refers to legal entities that are related to the dealer - typically because they share the same owner (such as a bank holding company). Such a setup implies that selling of USD bonds to foreigners by non-US dealers and the corresponding sourcing of these bonds from US trading desks would be reflected in the TRACE data as net selling of bonds from dealers to affiliates.”
(Chart: BofAML)
These same flows are keeping a bid under US Treasurys as well and between foreign demand for the long-end of the US curve (see last week’s 30Y auction for example) and expectations that the Fed will retain a dovish bias, bets on a continued rally have hit extremes. Have a look at the following excellent visual out this morning from SocGen:
(Chart: SocGen)
Essentially, the bank argues that you can depend on hedge funds to top tick the market every time. Here’s an excerpt:
“Peak in long 30y T-bond positions suggests that the bottom of 30y rates may be in view Currently, 30y Treasuries are yielding a dismal 2.2%. Meanwhile, higher Treasury prices only seem to increase demand for them. Hence, hedge funds remain positioned for even lower 30y yields, and increasingly so. In September 1998 and December 2004, net long positions on 30y Treasuries also peaked (chart below). A subsequent bottom in long-term yields was reached in the two weeks and six months thereafter, during which yields fell some 50bp to 4.7% and 4.2%, respectively. Those levels marked the bottom for 30y rates during the four and 2.7 years thereafter.”
That’s funny even if they didn’t mean for it to be. Allow us to show you why, in case it’s not clear. Have a look at these two charts depicting correlations between hedge fund performance and the S&P and hedge fund alpha, respectively:
(Charts: Morgan Stanley)
So basically, hedge funds are now just index funds, only instead of charging you 10 basis points, the vig is 200 bps up front and another 2,000 bps on the off chance they outperform in any given year (“two-and-twenty”).
You’re seeing the same thing in the 30Y - that is, there’s nothing contrarian or hedge-ish (we made that word up) about being long long bonds. It’s the consensus trade du jour.
So why in the name of the trading Gods would you want to pay someone exorbitant fees for that kind of “strategy”?
Something to ponder.