Coming off the fence on bonds

The 🐿️ is back on the phone to that fire insurance salesman again!

Summary

• The 🐿️ is worried about long duration bonds again.

• We need some insurance but do not want to pay too much for it. Some solutions.

Last week marked the 1st anniversary of Blind Squirrel Macro going live on Substack. Thank you for your loyal readership so far. I have put together a brief reader survey. It will only take 30 seconds of your time to complete, and I would love your feedback as I strive to make the content better.

Important: Please add your email to the comments box if you would like a reply (otherwise it’s 100% anonymous). Please ignore if you already did this on Monday (thank you!).

Coming off the fence on bonds

In ‘Section 2’ on Monday’s note, I wrote the following for paid subscribers:

There has been enough ink spilled elsewhere discussing last week’s inflation data. I am very glad that we are out of the bond business at the moment. I am honestly trying to second guess my biases, but it does feel like the central bankers are running out of options. The chances of them cutting rates before getting the inflation genie back in the bottle rise by the day.

The narrative shift on rate cuts since the beginning of the year has been whiplash-inducing. Inset source: Brent Donnelly’s AM/FX.

In mid-January, we closed the leveraged long 2-year treasury note (via Simplify’s TUA 0.00%↑ ETF) and SOFR call spread positions set out in November in “Sorry Harley, the 2-Year Note is not for babies”. We will take an 8.5% return in sovereign fixed income in a 6-week period any time!

We parked the proceeds in short-term treasuries via the BOXX 0.00%↑ ETF (an easy way to “T-Bill and Chill”). At that time (mid January) we also mentioned that we were looking for the opportunity to actively re-engage on the ‘dark side’ with bonds.

Last year, we had some success on the short side of TLT 0.00%↑, the iShares20+ Year Treasury ETF (link to original note below - paywall removed). Many of the themes from last year still apply. We need some fire insurance.

The 🐿️ takes a look at the long bond again.

Treasury auction supply was one source of major concern a year ago. The 🐿️ remains wary. The slide below from Apollo was from a recent deck looking at supply / demand dynamics in the treasury market that they put out (available here). Auction supply becomes a sideshow issue if market confidence is lost.

We have got to a stage where if the Fed is seen to cut interest rates in the face of resurgent inflation there is a risk of a loss in confidence on the bond market. Whereas if they hike, there is an awful lot of the market that is at risk of being caught badly offside (h/t

PauloMacro

).

I am not fond of the ‘negative carry’ dynamics of being short long-duration fixed income, but a variation on the playbook from last summer looks appropriate within the context of the current set-up.