http://www.tradingfloor.com/posts/tactical-note-overweight-fixed-income-jpy-1858326119

Tactical note: Go overweight fixed income & JPY

The US bond market has been under significant pressure and have led 10Y fixed income to a yield in excess of 2,20% - this compares with stock market yield of 1,95% for S&P500.

Why take the higher risk in stock market when bond market gives an additional 25 bps plus a free PUT option on the stock market at these elevated levels?

Source: http://www.multpl.com/s-p-500-dividend-yield/

The convexity is a complicated thing, but in short it means the managers of mortgage bonds gets shorter when market goes up, and longer when the market goes down if moves is big (as last month) then it becomes major driving force of direction. This leads to increase hedge activity which spills over to 10Y bond and its equivalent leading to massive correction insde a general higher yied trend.

A great piece on this is Michael Ashtons: Bonds and the "convexity trade"

The bottom line is US rates may have peaked, the bond market is a classic mean-reversion market which moves inside a very defined range. The below chart is the 30Y US bond which have traded in well defined range since early 1990s only to break down during 2008/09 & 2012 debt crisis. The recent move have moved the "momentum to a 50% correction, which should be difficult to break.

 

We think being overweight FI is now the right Alpha exposure, starting by buying one unit of T-bond September today (ZNU3 in Saxo Trader) @ 130 19/32 with stop below 130.00.

We have also taken short-term and tactical profit on ALL our short US Dollar (ZAR,CAD, and AUD) but have increased our USDJPY short (see yesterday's note). I must state that this is a correction we are looking for - Not a new trend, but in the Alpha side of trading I have changed bias so we are now:

• Long FI - from short. Long US - was short OAT (France)
• Short US Dollar vs. EUR, GBP and JPY - was long US vs. ZAR, PLN, CAD, AUD and NZD
• Bought down-side in stocks (S&P puts 1590 July) (yes if convexity trade happens it will lead to correction in stock market also due to relative value trading...)

Safe travels,

 

 

Med venlig hilsen  |  Best regards
Steen Jakobsen  |  Chief Economist

 

Saxo Bank A/S  |  Philip Heymans Allé 15  |  DK-2900 Hellerup
Phone: +45 39 77 40 00  |  Direct: +45 39 77 62 23  |  Mobile: +45 51 54 50 00

 

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