March1,2021 BARRON’S 5
UP & DOWN WALL STREET
One bond fan, who sees the yield rise as a
temporary problem, views the market carnage as
a buying opportunity and a“gift from the gods.”
Scorched Stock Bulls
LearnBondsAren’t
So Boring, After All
gerated the move.
One suspect in the yield rise was
hedging of mortgage-backed securities
portfolios by selling Treasuries. That’s
“totally bogus,” Harley Bassman, the
former head of Merrill Lynch’s mort-
gage market operations and the author
of the Convexity Maven blog, writes in
an email. The mortgage giants Fannie
Mae and Freddie Mac once ran what
amounted to “trillion-dollar hedge
funds” that had to be hedged. But the
government-sponsored enterprises are
in conservatorship and “are gone” from
this part of the market, he says. So, too,
are what he calls feeder-fish hedge
funds that would “front-run the GSEs.”
That leaves the Federal Reserve,
which Bassman says owns a third of the
MBS market, and bond index funds,
neither of which hedge. The final sus-
pects: mortgage real estate investment
trusts, which “do hedge but are tadpoles
relative to the size of the market.” So,
discount this widely circulated story.
What did happen was a sharp
acceleration in selling that appeared
triggered by the breach of the 1.50%
mark on the 10-year and extremely
weak bidding in the Treasury’s auc-
tion of seven-year notes. Whatever
the cause, the Treasury market be-
came technically oversold.
According to Eric Hickman, an
analyst at Kessler Investment Advis-
ers, a Denver-based manager of Trea-
sury portfolios, the Relative Strength
Index (a measure of price momentum)
for 30-year Treasury yields had
reached high levels that, in the past
seven such episodes from 2002 to
2018, presaged yield declines of 52 to
246 basis points. (Yields move in-
versely to bond prices, so yield de-
clines boost prices.)
The backup in yields means that
the market effectively is pricing in
significant Fed rate increases, says
David Rosenberg, the eponymous
head of Rosenberg Research. The
Treasury zero-coupon Strips market
is discounting the Fed’s raising its
overnight federal-funds rate target to
2.50%—the peak of the past interest-
rate cycle in 2018, he adds.
That flies in the face of the Fed’s de-
clared intention to maintain its current
ultraexpansionary policy for some time.
In this past week’s round of semiannual
congressional testimony, Fed Chairman
Jerome Powell reiterated that the cen-
tral bank would maintain its policy
stance until the labor market nears
something like full employment, which
isn’t close, with the true jobless rate
over 10%. He also reiterated, without
being specific, that the Fed would let
inflation run considerably over its 2%
target to make up for past shortfalls.
If so, that would mean a continua-
tion of the 0%-0.25% fed-funds target,
which is the median expectation all the
way through 2023 in the most recent
Federal Open Market Committee pro-
jections published in December.
But with the market effectively dis-
counting a sharp rise in the fed-funds
rate that is unlikely to come to pass,
and “everybody tripping over them-
selves being bearish,” the rise in yields
is a “gift from the gods” for bond in-
vestors, Rosenberg declares in a tele-
phone interview.
Other market signals that the rise in
yields may have run its course is that
higher rates are beginning to hit other
sectors, he adds. That has been evident
in megacap tech stocks, whose distant
earnings growth is discounted at
higher interest rates. Rosenberg also
points to the sharp drop in “risk-parity
portfolios,” which rely on a negative
correlation between stocks and bonds.
During Thursday’s selloff, he notes,
theRPAR Risk Parityexchange-
traded fund (ticker: RPAR) fell 2.1%,
its sharpest decline since last March’s
pandemic-induced market rout.
More fundamentally, Rosenberg
points out, while Wall Street econo-
mists are forecasting heady growth
of 7% or more this year as a result of
federal stimulus, they forget the poli-
cies’ transitory nature. In 2022, the
economy will face another “fiscal cliff”
similar to last year’s, when the $2.
trillion in Cares Act funding ran out.
For investors, the rise in yields over
the past three months has brought a
significant realignment. The 10-year
Treasury yield now roughly equals the
By Randall W.
Forsyth
Amid market jitters, Fed chief Jerome Powell reiterated the central bank’s aim of keeping interest rates low.
B
onds have a reputation
for being boring, unde-
servedly so. One mar-
ket veteran described
his life on a bond trad-
ing desk as something
resembling World War
I trench warfare, with long lulls punc-
tuated by sudden eruptions of fierce
action. The bond market just experi-
enced one of those violent episodes.
To most people, the roughly one-
quarter percentage point trough-to-
peak increase in the benchmark 10-
year Treasury note’s yield this past
week sounds like no big deal, and the
seven-basis-point (or 0.07 of a percent-
age point)net rise for the week,
to 1.40%, seems even less impressive.
But the ferocity with which most of the
action took place on Thursday made
that session “one for the ages,” writes
interest-rate derivatives strategist Wil-
liam Naphin of R.J. O’Brien, a Chicago
institutional broker, in a client note.
The fallout rippled through the
stock market, with the Dow falling
1.8% after having set a record the pre-
vious day; the Nasdaq Composite drop-
ping 3.5%, its biggest one-day hit since
October; and the S&P 500 index split-
ting the difference with a 2.4% dip.
Yet by week’s end, it appeared that
the backup in Treasury yields might
have run its course, at least for now.
That is after a very substantial rise
of about 60 basis points in the 10-year
Treasury yield over the past three
months, with 35 basis points coming in
February. Thursday’s crescendo, which
reached 20 basis points at the session’s
peak of 1.60%, resulted in various tech-
Al Drago/UPI/Shutterstocknical dislocations that probably exag-