Loud Noises

May 15, 2015 | Dian Chaaban


The NFL took deflate-gate very seriously on Monday, announcing that New England Patriots' quarterback Tom Brady has been suspended for 4 games for his role in the matter. In addition, the Patriots have been fined a shiny $1 million and will lose their first-round draft pick in 2016 and a fourth round pick in 2017 for using illegally inflated footballs in the AFC championship game - unheard of punishment in the matter of deflated footballs.


The entire debacle is being regarded as one of the most exaggerated episodes in the history of sports because of the very notion that other quarterbacks are known for doctoring footballs (which apparently they all do) and this one just happened to get caught - so, was it really that bad? Furthermore, suspending one of one of the greatest players of all time when there are so many other ways to “cheat” brings up the contentious subject of who is getting away with what… causing a lot of noise on the subject.


The recent spike in global bond yields has investors debating whether the rise has been due to technical factors, or if bond investors are beginning to buy into the global economy ‘reflationary’ theme. Referring to an interesting commentary put forth by my US Fixed Income Strategies group today, we believe that the current activity is more noise than fundamental and as a result, we see little reason to view this as the start of a new trend. The current trend (which is characterized by a stronger dollar, a flatter yield curve, slow global growth, and low inflationary pressures) is likely to remain in place, which suggests that from an investing perspective, all of this noise has created an ideal opportunity for investors to capitalize on unexpectedly steep yield curves.


Now, there is rarely ever any one singular factor to place the blame for any major market move but some themes to consider are:


The German Bund – The rise in the German 10Y Bund yield explains nearly all of the recent selloff in global sovereign bonds, but there is plenty of debate over whether it is purely technical (i.e. unsustainable) or if there are perhaps some fundamental factors.
US Weakness – Delayed fed expectations leading to a lower dollar, higher oil prices and higher inflation.
Bond Supply Glut & Low Liquidity – All of the sharp moves in the bond market are being exacerbated by increased bond supply for it to digest and generally low levels of liquidity. Selling in the German Bund likely hasn’t yet been matched by those wishing to buy (until some clarity returns to the market) and in the US, the bond supply glut has largely come from the corporate bond market as companies are not only gearing up issuance following the post-earnings blackout period, but are likely trying to issue ahead of any change in Fed policy and volatility surrounding that. Issuance so far this year is running at the fastest pace in years, and is one additional technical factor that has contributed to higher yields in May.


So while the Patriots are taking a medium term hit, they will recover, as strong teams do – much of the same can be said for the bond investor during this selloff. We don’t see this as the start of a bear market in bonds (as some headlines have proclaimed), but rather market noise and simple volatility that we would generally expected ahead of Fed policy changes.


Enjoy the long weekend!