taking a breather, markets want to believe in trade negotiations (Thursday)

It has been a tamer night, dominated by light summer volumes and a better risk mentality. The opening focus last night was more talk of Chinese retaliation but that quickly turned to risk on based upon a Bloomberg story that rehashed comments from yesterday out of China supporting resumption of bilateral negotiations between China and the US. Student body right, student body left… As of 8 AM ET, Treasuries are .5 to 1.5 bps higher in yield, with the 30y outperforming markedly in a bear flattener, while US equity futures are .5% to .75% higher ahead of the cash open.

There was small US hedge fund buying of 10s on the Asian open related to the Chinese retaliation talk, along with some minor buying of 10s by Japanese banks. However, even before the “negotiation” story caught wind, there was already better Japanese real money selling in 5s and 7s, a highlighted flow for the fourth consecutive session. As we got through Tokyo lunch, Asian banks joined in the selling by dumping 10s and TYU contracts. There was also Asian bank paying in USD 5y and 7y swaps, while RV accounts added 2s10s and 5s10s steepeners on the USD swap curve. Overall though, volume dried up markedly as Treasuries were walked lower into the European open. Locally, after some early concession building in JGB 20s and 30s ahead of 20y supply, the MoF auction of 20s was met with good demand that caused dealer short covering in the aforementioned 20s and 30s along with Japanese real money adding 30s outright to help the long end in Japan outperform. Aussie overnight rates set lower again, helping front end there in a very quiet session. Asian stocks did better with China leading the way, gaining 2.2% to 2.7%, while rest of Asian bourses were up closer to 1%.

Activity remained tame through the European open, with some very minor selling of bobls by dealers ahead of Italian supply, some domestic bank selling of 5y and 10y BTPs ahead of said supply, and some macro paying in US 10y swaps. Volume has remained low throughout the European morning, with the only interesting data being a slightly softer revision to French CPI for June, which really didn’t give anything other than bunds a minor bid. The theme in Europe has been curve steepening in the risk on trade, even as Treasuries continue to flatten despite the looming 30y supply later this afternoon. For a third consecutive session, one of the highlight flows has been paying in EUR 50y swaps, a consistent theme this entire week, but today really helping the steepening bid. UK markets have been quieter, waiting on PM May’s White Paper on Brexit and licking a few wounds after yesterday, flattening slightly on light activity. BTP pressure in 2s and 3s was an early theme as multiple account types sold those sectors ahead of supply; decent results in 3y and 7y, but softer bidding for 15y and 20y resulted in decent buying of 3s after the supply as RV accounts raced to cover but BTP 10s move even wider to bunds despite the better risk sentiment. As NY walked through the door, there was macro selling of TU contracts (some 12K contracts at 105-25.25 to 105-20) and back end of 1y (25K sales in EDM9 down to 97.09+), helping pressure US curve further as 5s30s made a new low for the move down at 19.5 bps. RV has been remarkably absent thus far today ahead of today’s 30y reopening, given what would seem an incredible opportunity to short 30s on the curve; this definitely bears watching ahead of 1 PM ET.

Speaking of today, the calendar picks up a bit with weekly claims data, CPI, and real earnings all at 8:30 AM ET, followed by the monthly budget statement at 2 PM. We get a couple more Fed speakers in Kashkari (8:30 AM ET) and Harker (12:15 PM) before the big event of the day, as Treasury reopens $14BN in 30y bonds at 2 PM ET.

The sentiment and daily indicators from Tuesday/Wednesday morning and the lack of follow through early Wednesday held their predictive value, as we are squarely back focused on higher yields and stocks into the end of the week. So we are back in the belief that we might be able to get a 3% 10y before month end. For today, it’s important to see fixed income make a real run at this week’s high yields; while the front end is there already, the long end has some work to do still. Very interesting that we have seen little selling in 30s ahead of the supply; if we don’t see some shorts get set this morning, that auction will have some issues. All right, for choice today in TYU, we’ll stick with yesterday’s projected low at 119-29 and call the projected high 120-07 for the rest of the session (120-08 overnight already). If we take out this 120-07 level though, we will quickly jump up to 120-10, through there it’s 120-15+, 120-22, 120-29, and 121-02. Below 119-29, watch 119-22+, 119-19, and then 119-13+. Some interest in buying gamma continues to percolate this morning, but just don’t see the need (or the payoff quite frankly) in paying for conditional protection at this moment.

Have a great Thursday,