As I wrote at the beginning of The Fed’s quantitative easing (QE) ventures back in 2008, The Fed will never be able to “normalize” monetary policy. As we have seen, The Fed has all but quit rate hikes and has annoucned end an to QT (quanitative tightening) in the Fall.
In celebration of the eternal Central Bank monetary stimulus, S&P500 volality (VIX) is collapsing … again as VIX Futures open interest is shrinking. Accordingly, the SMART Money Flow Index is rallying as investors see Central Bank surrender.
The global Central Bank asset purchase bonanza!!
Coupled with low rates.
The Fed and other Central Banks are contuning to run their bubble machines!
Here is a video of The Federal Reserve.
Investors in mortgage-backed securities are cooling on swaps used to hedge against falling interest rates, signaling confidence that yields may have found their bottom.
The 10-year swap spread has backed off from the tightest level since October 2017, reached last week. The U.S. Treasury 10-year yield had touched a 15-month low of 2.37 percent on March 27.
A U.S. homeowner may prepay their mortgage at will, and the duration of a mortgage-backed security can drop dramatically during periods of falling yields due to the potential for faster prepayments. This means MBS investors need to add duration, referred to as “convexity hedging,” as interest rates drop.
A popular method to add duration is by using swaps and “the 10-year is still the most liquid swap for mortgage hedgers,” said Walt Schmidt, head of mortgage strategies at FTN Financial. Now that the 10-year yield has risen again to the 2.50 percent area, swap spreads are back close to where they lay previous to the rally and “the wave of convexity hedging is likely over for now,” he said.
|Duration: the weighted average maturity of the security’s cash flows, where the present values of the cash flow serve as the weights. The greater the duration of a security, the greater its percentage price volatility.
The Overnight Indexed Swap (OIS) looks like an ARCTANGENT function.
Slippin’ Jimmy took this photo of Fed Chair Jerome Powell’s chair.
Welcome to the topsy-turvy world of financial markets!
The S&P 500 Cboe Volatility (Equity) index versus the Merrill Lynch 1-month Treasury bill index (MOVE) show a further separation.
This comes as the WIRP Estimated Number of Moves Priced in for the US (Futures Model) is indicating one rate cut coming up (although Trump’s economist Larry Kudlow wants 50 points in cuts as does Trump’s nominee for The Federal Reserve Board of Governors, Stephen Moore.
Despite Kudlow and Moore touting 50 basis point cuts (and a slowing advanced retail spending report for February) …
Remain calm .. all is well!
The US Treasury yield curved inverted on Friday for the first time since 2007 and it became ever more inverted today as 10-year T-Note Volatility spiked.
Investors are taking large bets on the leveraged VIX note with inflows the highest in recorded history (that is, since 2011).
Former Fed Chair Janet Yellen said not to worry. Inversion may simply be a rate cut signal, not recession. So don’t think twice, it’s alright.
Ambrose Bierce wrote a short story about a man being hanged during the American Civil War and what went through his mind in his final moments. It is called “An Occurrence At Owl Creek Bridge.” Hauntingly similar to today’s plight: overoptimistic expectations before being hung, then …. snap.
In summary., Ben Bernanke and The Federal Reserve entered the markets in 2008 in force. The Fed Funds Target rate was raised once during President Obama’s two terms as President, but eight times since President Trump’s election as President. Plus, The Fed’s Quantitative Tightening (in terms of its balance sheet) begin in earnest in 2019.
Once The Fed hurled its monetary weight at the economy in 2008, the stock market had an amazing run. but since The Fed started to raise rates and began their balance sheet unwind, the S&P 500 index has increased in volatility as has the SMART Money Flow Index.
The bond market volatility indices have gotten crushed by central banks.
On the real estate front, equity REITs, like the small cap Russell equity indices, seemed to be benefit greatly from The Fed’s Zero Interest Rate Policy and QE. Mortgage REITs, on the other hand, kind of died with the financial crisis and never recovered. The RCA CPPI commercial real estate index too off like a missile.
Like in the Ambrose Bierce short story “An Occurrence At Owl Creek Bridge,” The Fed and other central banks are quitting any attempts at rate normalization (for fear that they might hear that dreaded “snap” at the end of the monetary rope].
10-year Swaption volatility has sunk to the lowest level since 2005. Did The Federal Reserve provide too much liquidity for too long, effectively drowning bond volatility?
The Fed’s lingering Target Rate near zero and its three rounds of asset purchases helped kill of bond volatiilty. And with rising Fed Target rate and balance sheet unwind (removing liquidity from markets) has pushed bond volatility to 2006-2007 levels.
So, the answer is … YES!
(Vol has been) shot through the heart and The Fed’s to blame! The Fed gives central banks a.bad name.
The Merrill Lynch Option Volatility Estimate 3-Month has just hit an all-time low.
The MOVE index is a yield curve weighted index of the normalized implied volatility on 3-month Treasury options. It is the weighted average of volatilities on the CT2, CT5, CT10, and CT30.
Even since Fed Chair Ben Bernanke started ZIRP and QE in 2008, continued by Janet Yellen, interest rate volatility has subsided to an all-time low under current Chairman Powell.
Not a great time for volatility traders!
The Treasury market has come undone (or undun as The Guess Who sang).
The S&P 500 index has come undone from the 10-year Treasury Note yield.
Meanwhile, the 10-year term premium is at a new low, likely due to persistently low inflation.
No sugar tonight? Don’t worry! The probability of a Fed rate cut in 2019 is minimal.
European bond volatility (according to the Merrill Lynch 3-month EUR option volatility estimate) has plunged to the lowest level on record.
A similar chart for the US bond market is the Merrill Lynch Option Volatility Estimate for 3-months shows exactly the same thing. The US bond market is grinding to a halt.
Note that the US MOVE 3-month estimate hit a low in May 2007, just ahead of The Great Recession of 2007-2009.
An interesting chart of the 30-year sovereign yields less Fed Funds rate reveals that much of the world is in a state of global yield curve inversion. (Graph courtesy of the great folks at Crescat Capital).
While the US is not in a state of yield curve inversion (except for the 1-5 segment), the US remains (for the moment) is positive territory.
I prefer using the 10-year Treasury Note for curve analysis rather than the 30-year Treasury Bond.
One might observe that Treasury volatility measures are quite low … again.
So, yield curve inversion is the same all over the world. The US seems to be on track to invert as well.