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TNotes look underpinned

14 February 2009

The Technical Trader’s view:

The long-term chart emphasizes the simple fact that the market is massively underpinned
from the horizontal support from the prior Highs in 2003 and 2008. The initial thrust up
through those Highs has paused – but the scope for further pullbacks beyond the
recent lows looks very limited.

The detail of the market shows the pullback towards the support at 120-14. The overall shape of the pull back is close to a flag formation – further encouraging any bulls. Certainly the market’s solid push up through the resistance from the prior low at 123-09 was impressively bullish evidence. So it is tempting to go long, no doubt. But as yet there is no shortterm reversal pattern in place yet. We are waiting for that before committing to the upside.

The Macro Trader’s view:

Since the 18th December, the US 10Year Note has been in a clear downtrend driven by
unease in the market over the Obama stimulus plan. Not that anyone doubted that the US and
global economies were in a severe downturn, probably the worst in living memory, but the
sheer size of the monetary numbers being committed to various bail outs were causing traders
to think hard about how the market would digest all the inevitable funding that would result.
The equity markets, on the other hand, remained buoyed up by the prospect of a large fiscal
stimulus kick starting the economy, with little thought for how the Federal government would
fund the spending.

The expectation grew in the market that the Fed would expand its bond market intervention to
include the purchase of Treasury Bonds, but at the Fed’s recent FOMC meeting, policy-makers
failed to include any such commitment and the Treasury market slumped further.
Moreover, as expectations grew over recent weeks that the new administration would launch a
new Bank rescue plan, possibly including the establishment of a “Bad” bank to house all the
US Banks toxic assets, TNotes further tested lower still as this looked like yet another
multibillion Dollar expense on top of the TARP fund set up by President Bush and President
Obama’s much-awaited fiscal stimulus plan.
But sentiment was completely changed earlier this week, when the new Treasury secretary
announced his long awaited Bank rescue plan. Not only did this not include plans to relieve the
US Banks of their toxic assets, it relied on a private/public route that lacked the detail and
transparency the market had been expecting.
In addition, though the Senate passed a bill enabling the stimulus, it was smaller than the
President had requested and differed from the version the lower house had passed.
The impact of these two events was immediate:
- The bond market rallied hard, and
- Stocks sold off.

The moves in these two markets were driven by the same thought:
- Equity traders immediately doubted that sufficient funds would be made available to
successfully kick start the economy,
- Bond traders were relieved that the US tax payer wasn’t taking on a potentially open
ended commitment that could cause the market indigestion and lead to much higher
bond yields.
Currently the Senate and House seem to have reconciled their two separate versions of the
stimulus bill, but the amount made available is smaller than the almost US$1.0T Obama was
seeking. But this hasn’t steadied the markets.
Traders remain concerned over what they see as the vagueness of the Bank rescue plan and
the continued weakness in equities is leading to safe-haven buying in Treasuries which
themselves are supported anyway by bond investors wanting to go long.

Whether or not this marks a shift in the direction of the Treasury market, is at this stage difficult
to say. The authorities will not be pleased by the markets assessment of their Bank rescue
plan and may rush out greater detail, but paradoxically, the very lack of detail has engineered a
more favourable public funding environment (i.e. issuance of, say , TNotes, which could
evaporate upon receipt of greater clarity.
We judge the situation to be highly fluid and dangerous for traders. Watch it with great interest,
but from the sidelines.

Mark Sturdy, John Lewis

Seven Days Ahead

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