J.P.Morgan Dig Into Recent Cheapening Drivers

J.P.Morgan note that “the move to higher yields MTD has not completely been rooted in fundamentals.”

• “Fundamental factors from our model only explain about 50% of the move.”
• “We dug into term premium earlier this month, and found that the transition from the 3 price insensitive pillars of demand (the Fed, U.S. banks, and foreign investors) would likely result in higher term premium and steeper curves, but this is a theme we would expect to pan out over the coming months as auction sizes continue to grow into 2024.”
• “While yields have typically declined into government shutdowns, all prior episodes were all associated with more accommodative changes in Fed policy than we’ve seen recently, and against the backdrop of more acute concerns over fiscal deficits and Treasury supply could actually be bearish for Treasuries”
• “Our Treasury Client Survey had crept longer into September, and when our survey moves sharply away from average levels, it has consistently given contrarian signals on rate levels. Our latest survey shows a significant reduction in long positions, indicating there was long liquidations in the wake of the FOMC meeting last week, and positions are closer to average levels observed over the last year.”
• “We think hedging technicals have played a role as well: the option-adjusted duration of the USZ3 contract has extended about 1 year this month, and the CTD has shifted from the 4.5% Aug-39s to the 4.375% May-40s. This 6% duration extension is small, but there is 1.4mn in OI in the contract and it’s possible that dynamic hedging could be contributing to the bearish impulse at the long end.”