REAL RATES & MBS HEDGING FLOWS
10Y TNX was trading at 1.55 earlier this AM before falling off (currently 1.52 from a close yesterday of 1.485).
The current rise is about a rapidly increasing REAL RATES. Credit is becoming more expensive!
Real Rates increase based on Credit Availability and Demand.
This change in real rates is about the expected coming surge in US Treasury Supply ($800B) as a result of a resolution to the Debt Ceiling (expect another kicking the can down the road) PLUS Fed "Tapering" (beginning in November or December).
I laid both out in my latest newsletter, WHICH IF YOUR ARE NOT READING I STRONGLY RECOMMNET (https://conta.cc/3mn6MQP ).
We have nailed this lift because we understood the mechanics and not the hype .... this is investing not trading!
MORE INVESTMENT THOUGHTS
I am starting to believe we are going to move to and hold 1.8% in the 10Y TNX as we go into yearend.
I am coming at this mark from what I am seeing happening in the hedging flows linked to mortgage-backed securities (MBS). This is getting little coverage - as of yet!
With the Fed announcing its intend to 'Taper' it will reduce the $40B of the $120B allocated to MBS. Since breaking out from below 1.38% it has now brought the mortgage universe closer to the point of peak negative convexity. It will encourage (force) duration repositioning across mortgage portfolios. As you are aware negative-convexity hedging involves selling Treasuries to compensate for a scenario where rising yields lengthen the duration of mortgage debt as refinancing slows.
Many of you will recall this is the same dynamic as we saw back in March, when comments from Fed Chair Jerome Powell drove U.S. 10-year yields toward their peak level of 2021 approaching 1.8%. That move soon faded as buyers of Treasuries emerged and because the Fed’s large footprint in the MBS market. Thanks to its monthly purchases of MBS it muted the impact of convexity-hedging flows. That will be forced to change as well as the fact that Japan clearly has a diminishing interest in US Treasury purchases.
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