G3 Recap 12-08-10

Main Items:

  • US 10yr auction was OK, after a 19bp concession from yesterday’s close. Treasuries bounced a bit into the close, with dealers reporting that they are finally seeing some buy tickets. Tomorrow we have the last auction for the week.


  • Japanese Eco Watchers Survey Outlook improved to 41.4 in Nov vs 41.1 previously
  • French Business Sentiment improved to 107 in Nov vs 103 expected and previously.
  • UK CBI Trends Total orders improved to -3 in Dec vs -13 expected and -15 previously
  • The Italian parliament approved $33.3 billion in budget cuts over the next two years, locking in austerity measures aimed at stabilizing public finances and reassuring jittery sovereign debt markets – WSJ.


  • Wow. 3.30 already in 10’s. The lack of any real bounce after such a massive move suggests that convexity hedging likely played a big part in this move. This means that prices can move well past fair value, so longer term buyers should be patient. However, in the short term the move is pretty extended and is vulnerable to a snap back:

  • Brokers appear to have agreed that the tax cut extension is likely to add 0.5%+ per year to GDP over the next couple of years. Relative to baseline projections of ~2.5% growth for next year, this should significantly reduce expectations for an extension of QE2, even as it does little to bring forward the first Fed hike given the high level of unemployment. Furthermore, the budget deficit resulting from the tax cuts is expected to add an additional ~350bn to the Treasury supply in 2011, and 450bn in 2012 according to GS. (2.3% and 3% of GDP, respectively. Remember the days when that was the ENTIRE budget deficit?)
  • Gold got walloped. What happened? The rise in real rates was discussed yesterday, but as the chart below shows, regressing gold prices against 10yr real yields and the Vix has actually been more useful as a contrarian indicator over the past several years. Note that the error term peaked in the 2008 gold high, and bottomed at the April 2010 low:

    So even though the error term is once again retesting the lows from April, one can’t be very confident that it will come back this time.
    On the other hand, regressing gold vs ETF holdings, which has a higher R-squared, suggests that gold is basically just back at fair value:

    When combined with positive seasonality going into year end, one can make the case that it is NOT time to get out of gold just yet: