Benchmark Yields Have Likely Seen Their Q1 Lows

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Less than a week after the Fed surprised the market with a 50bp rate cut to help insulate the US economy from the global coronavirus outbreak, Treasury market participants are finally taking advantage of the panic-induced levels that have since followed.

Uncertainty is a main source of fuel during negative feedback loops, and low inflation environments often play host to anomalous yield declines. During these periods, even the most sophisticated traders lack the tools to trade with information that essentially less than useful. Yet, the trading must go on.

As rates bounce from of historic lows, some might argue this reflects a market that is showing some much needed confidence in a Fed that is not giving into calls for another 50bp cut in response to the historic equity losses that have occurred since last week’s pre-meeting rate lop. As I noted in last week's Special Bulletin, to me it’s more a function of the market finally responding to both volatility and cycle-based extensions that have the potential to produce a high probability mean reversion trade.

Today’s Special Bulletin is inspired by the fact that, as a result of Tuesday’s closing sell-off above 0.69% in the benchmark part of the curve, there is a strong likelihood that the 10-Yr yield will not move meaningfully lower than the recent 40bp low by quarter end.

Clearly, there are no guarantees that favorable backtest results will produce similar outcomes in real world situations. This information is important, however, and Extract Analytics uses it to either support or refute what the discretionary price patterns are suggesting.

The results you see to the right show the difference (the spread) between 10-Yr yield and the yield low that occurred prior to the yield closing above a trailing volatility stop (the volatility stop trigger) within rolling 5, 10, 21, 42 and 63-day windows over the past 10 years. Right now, the positive skew of these results supports the suggestion I made in the 03/02/2020 Special Bulletin to view any rally to between 93 and 50bps as an opportunity to shed duration ahead of quarter end.