A flight into ‘Quality’ assets
April 7, 2024 -Weekly Comment
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The wave of crystallization rolled ahead. He was seeing two worlds, simultaneously. On the intellectual side, the square side, he saw now that Quality was a cleavage term. What every intellectual analyst looks for. You take your analytic knife, put the point directly on the term Quality and just tap, not hard, gently, and the whole world splits, cleaves, right in two…hip and square, classic and romantic, technological and humanistic…and the split is clean. There’s no mess. No slop. No little items that could be one way or the other. Not just a skilled break but a very lucky break. Sometimes the best analysts, working with the most obvious lines of cleavage, can tap and get nothing but a pile of trash. And yet here was Quality; a tiny, almost unnoticeable fault line; a line of illogic in our concept of the universe; and you tapped it, and the whole universe came apart, so neatly it was almost unbelievable. He wished Kant were alive. Kant would have appreciated it. That master diamond cutter. He would see. Hold Quality undefined. That was the secret.
Phædrus wrote, with some beginning awareness that he was involved in a strange kind of intellectual suicide, “Squareness may be succinctly and yet thoroughly defined as an inability to see quality before it’s been intellectually defined, that is, before it gets all chopped up into words — .We have proved that quality, though undefined, exists. Its existence can be seen empirically in the classroom, and can be demonstrated logically by showing that a world without it cannot exist as we know it. What remains to be seen, the thing to be analyzed, is not quality, but those peculiar habits of thought called `squareness’ that sometimes prevent us from seeing it.”
Thus did he seek to turn the attack. The subject for analysis, the patient on the table, was no longer Quality, but analysis itself. Quality was healthy and in good shape. Analysis, however, seemed to have something wrong with it that prevented it from seeing the obvious.
–Zen and the Art of Motorcycle Maintenance
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It’s not that US bonds are of unsound quality. The coupons will be distributed and principal (if not the principles) honored. It’s the future purchasing power of the US dollar that seems to have something wrong with it.
SPX fell 1% last week. The thirty-year bond yield rose 18.5 bps to 4.528%.
Gold was up 4.4% to a new record high of $2329.75. Quality asset.
Gold is not the patient. The sickness lies within the entirety of the government’s debt addiction.
The chart below shows SPX/XAU and SPX/BCOM. With all the AI hype, SPX priced in gold is not taking out the high from the end of 2021. Even against the commodity index there has been a slight turn down.
The chart on the next page is the 10-yr yield. The current yield is about 4.38%, essentially at the halfway point of the October 2023 high of 4.99% to the Dec 2023 low of 3.79%. It’s the same with the 30-yr bond, the halfway point is 4.53% and we’re right there. The large drop in yields in the last two months of last year is partially attributed to the Treasury’s Quarterly Refund Announcement on Nov 1, which increased t-bill issuance and slowed the pace of longer dated treasuries. The low yield of that move was in late December, shortly after Powell indicated a “dovish pivot” at the Dec 14 FOMC. Since then, yields have stair-stepped higher. This week features inflation data, treasury auctions and FOMC minutes:
Tuesday – 3-yr auction ($58b)
Wednesday – CPI expected 3.4% yoy from 3.2 last, but Core 3.7% from 3.8. FOMC minutes. 10-yr ($30b)
Thursday – PPI expected 2.2% yoy with Core 2.3%, both higher than last. 30-yr auction ($22b)
The next Quarterly Refunding Announcement is May 1.
Recall that in October, several Fed officials suggested that the rise in long-term yields was tightening financial conditions, obviating the need for the Fed to overtly raise the FF target. For example, here’s an excerpt from Lorie Logan on October 9, 2023:
Financial conditions have tightened notably in recent months. But the reasons for the tightening matter. If long-term interest rates remain elevated because of higher term premiums, there may be less need to raise the fed funds rate. However, to the extent that strength in the economy is behind the increase in long-term interest rates, the FOMC may need to do more.
Expect to hear a lot about an increase in ‘term premium’ in the coming days. Perhaps this year’s rise in longer maturity yields can be partially explained by the Dec Fed pivot; a shift away from the single-minded goal of slaying inflation. Of course, the Federal Gov’t is completely focused on re-election. Might the QRA factor into that? The cancellation of SPR purchases to replace previous sales is a case in point, as is the administration’s displeasure in Ukrainian attacks on Russian oil infrastructure. As a final note, WTI closed at a new high for the year (CLM4 up 3.68 on the week to 86.10). Also, I track the rolling one-year calendar 2nd to 14th CL spread. The high was made last year at the end of September, with the front contract at $12.20/bbl premium to deferred. That period, incidentally corresponded with rising bond yields and an increase in ‘term premium’. Currently, this spread is represented by CLM4/CLM5 which has rallied to a new high this year, settling 9.69 on Friday, up from around 4.00 at the start of February.
I’ll admit, it’s not exactly a sharp analytical knife. But I’ll take a lucky break whenever I can! As an old friend used to say: Sell bonds. Wear diamonds.
| 3/28/2024 | 4/5/2024 | chg | ||
| UST 2Y | 462.2 | 473.0 | 10.8 | |
| UST 5Y | 421.1 | 436.5 | 15.4 | |
| UST 10Y | 419.8 | 437.3 | 17.5 | |
| UST 30Y | 434.3 | 452.8 | 18.5 | |
| GERM 2Y | 284.8 | 287.5 | 2.7 | |
| GERM 10Y | 229.8 | 239.9 | 10.1 | |
| JPN 20Y | 145.2 | 153.1 | 7.9 | |
| CHINA 10Y | 230.6 | 229.1 | -1.5 | |
| SOFR M4/M5 | -107.0 | -93.5 | 13.5 | |
| SOFR M5/M6 | -44.0 | -40.5 | 3.5 | |
| SOFR M6/M7 | -5.5 | -7.0 | -1.5 | |
| EUR | 107.89 | 108.40 | 0.51 | |
| CRUDE (CLM4) | 82.42 | 86.10 | 3.68 | |
| SPX | 5254.35 | 5204.34 | -50.01 | -1.0% |
| VIX | 13.01 | 16.03 | 3.02 | |
I love this story below. Now here’s INNOVATION!
