RBC Warns January Is Setting Up As A "Massive Mean-Reversion" Month
By Tyler Durden
Following Friday’s report by RCB’s Charlie McElligott which sought to answer “THE” question every investor is asking, namely “what could derail this rally“, today’s the cross-asset strategist has released a follow up analysis in which he warns that even though the bond battering continues – and is likely to continue for a while – the market is now being set up for a “massive mean-reversion” counter-trend rally as soon as January.
His arguments why are presented below:
Big Picture: BOND BATTERING CONTINUES BUT SET-UP FOR JANUARY COUNTER-TREND REVERSAL
Bonds further ‘wearing it’ on multiple-fronts this morning (monster TY put block overnight, likely hedging against MTM losses being accumulated–H/T Alex Redhead) as once again, the 5+ year rates trader playbook is torn-up with weakness during the Asian session overnight—five points I’m highlighting:
- Crude oil is +5% (highest levels in 17 months) after further Saudi commitment to cut output following the non-OPEC states agreement this weekend to do the same. RBC’s Chief Commodities Strategist Helima Croft is calling this “OPEC’s ‘whatever it takes’ moment,” and global developed market inflation expectations are again being ‘reset’ higher;
- Front-loaded UST issuance calendar this week ahead of Fed, with 3Y and 10Y auctions Monday and 30Y on Tuesday;
- Nikkei press report that 2017 BoJ issuance will set a new record, specifically highlighting plans to issue Y3T of 40Y JGBs against a reduction of sales in the front-end / belly. Accordingly, we see JGB 2s30s and 5s30s curves making new nine-month steeps;
- Western financial press reports noting that the BoJ may have to reduce asset purchases by as much as 10% in light of the move already seen in US rates / the impact this is having on JGBs (FWIW, our Japan USD rates team is pointing out that no local press is talking about this tapering story—as such, we continue with status quo of the ‘policy divergence’ trade, as the Yen drop to new 10 month lows against the USD overnight);
- ‘Unwillingness’ to catch the falling knife from overseas real money investors (who have been “the” bid in USTs for years), voicing a preference to wait until 2017 to target ‘more attractive’ entry points for longs. This comes with domestic real money funds already being sellers as they work to shed duration. The sense is that leveraged funds will continue to press shorts on this trade which has been exceptionally profitable thus far. As such, the rates move to the upside could be magnified even further into certain illiquid year end conditions with dealer balance sheet / financing constraints.
The danger for risk assets of course is a ‘disorderly’ rates move, as noted in Friday’s “Big Picture” as one of the chief concerns with regards to potential disruptors of the “reflation trade.” VaR stress -induced deleveraging has repeatedly ‘spilled-over’ into other asset classes in every ‘taper-tantrum’ episode we’ve witnessed since ’13, especially on account of the proliferation of “short convexity”/“short correlation” strategies which have grown massively popular with the asset liability management community in …read more
Source: RBC Warns January Is Setting Up As A "Massive Mean-Reversion" Month
