Quote from The Big D:
Look, it's pretty simple: the reason I'm short is that there's no buying from non-speculative sources. Bond funds are decreasing their exposure. That's selling. Pensions and insurance companies want no part of 0.5% - they're buying out the curve and foreign. The Fed's getting shit from all quarters over how big their balance sheet is. Foreign banks have indicated they want to cut exposure too.
Ask this: why is the spread between the Sep. and Dec. contact so small in the 2s? The answer seems clear to me: many of the shorts are non-speculative (bond funds) and intend to deliver against Sep contract to reduce their exposure. This is making it expensive for the longs to roll forward because the shorts don't want out. It all has to come to a head before expiration.
Now, equities get massacred by the Fed report, and bonds trade in the same range they've been in for a while.
Conclusion: going down and when it goes it will take the elevator, not the stairs.
OKI, makes sense... I hope you don't mind if I make a couple of comments. All are my personal opinions, so pls take a pinch of salt.
1) Buying from non-spec sources:
a) I don't know if bond funds are reducing their exposure (and if you're concluding this on the basis of Bill Gross's comments, I wouldn't trust a single word he says).
b) I completely agree with you that there's a lot of buying happening further out on the curve recently.
c) Not so sure about foreign, as there aren't enough bond mkts that are big enough, unless you fancy buying JGBs at lower yields (which, by the way, the Chinese have been doing recently) or BTPS (Italian guvvies).
d) But the most important point is that any time you buy a long-dated bond, you're automatically buying some shorter-dated duration. So every time a pension fund or an insurer buys a 30y bond, all else being equal, the 2y bond on the same curve will rally.
2) Calls for the Fed to shrink its balance sheet have gone very silent recently, as the data keeps disappointing. It doesn't look like the Fed is going to listen to these people anyways, but we have to wait and see.
3) I have not seen any indication myself that foreign banks want to cut their exposure. If anything, all sorts of banks will be forced to buy bonds, incl treasuries, for the new liquidity regimes, e.g. Basel III (a specific case of what Reinhart and Rogoff refer to as "financial repression").
4) As to the value of the roll, pls trust me on this, at the moment it has nothing to do with positioning, esp real money positioning. It's mainly the function of the duration, first and foremost, and the relatively small difference in the coupons of the two CTDs.
So, in summary, your short is motivated almost solely by your view of how the mkt is positioned, rather than a fundamental view on the Fed or the future of the Western economies?
