Bond Yields Slipping, How Long Can Inflation Be Transitory?

July 15, 2021

Since the big CPI and PPI prints earlier this week, markets have been trying to figure out direction and sentiment. What will be the outcome of continued higher inflation prints?

Capital markets seem to be a bit confused as to what to do next. As Federal Reserve Chair Powell testified in front of House and Senate committees over the last two days, there doesn’t seem to be any additional clarity in my eyes.

I wanted to wait until the Fed’s 2-day testimony concluded before publishing today’s opinion piece to gain any additional clarity on the markets.

There is a conundrum that exists right now. We keep getting higher inflation readings, and the Fed has already telecasted that higher rates are in the cards in 2023 (maybe 2022). Inflation is a problem and needs to be tamed. One way of taming it is to raise interest rates. There are other tools at the Fed’s disposal to tame interest rates like tapering and more. The question becomes, at what point is action going to be taken?

As the Fed testified in Congress yesterday and today, interest rates fell and the price action seemed anything but typical following Wednesday’s poor 30-year bond auction. We get it, the markets are addicted to low interest rates, but unless hyperinflation is the goal, it feels like something needs to change soon. When will the Fed begin tapering bond buying? How about some incremental tapering or very fractional interest rate increases such as an eighth of a percentage point or something? If something doesn’t change soon, we could be heading for a 1981 style inflationary environment. Rates are going to have to rise, and the stock market is not going to like it. However, action needs to be taken.

Will the US equity markets be able to maintain their upward trajectory?

All of this stimulus, decade-plus near-zero interest rates, bond buying, and market addiction to easy monetary policy will have repercussions eventually.

Since we have been analyzing TLT, let’s take a look at the 30 Year Bond Futures:

Figure 1 - U.S. Treasury Bond Futures July 8, 2021 - July 15, 2021, 1 Hour Candles Source stooq.com

The puzzling price action (or perhaps not so puzzling in retrospect given the 2-day Fed testimony) is the creep higher after the weak demand shown in Wednesday’s 30-year bond auction. If you were short bonds at this time via TLT or any product, things were looking good. Since that auction, we had the Fed testimony, which showed many select congress members pleading for interest rates to be kept low. Unfortunately, if rates remain at rock bottom levels, it seems like inflation could spiral out of control. This continued inflation would be bad for the American people.

It is unusual price action; to say the least. The 30-year bond auction was priced at 2%, and demand was extraordinarily weak. There is a solid explanation of this most recent bond auction on Barrons.

However, today, we have 30-year bonds catching a bid near 1.94%. Yes, it is illogical. Yes, markets can be illogical for extended periods.

Looking at the 30-year bond from a perspective of yield:

Figure 2 - U.S. 30 Year Treasury Bond Yield July 7, 2021 - July 15, 2021, 1 Hour Candles Source stooq.com

Fed’s James Bullard, Federal Reserve Bank of St. Louis President urged for tapering of bonds earlier today.

At the time of writing, we have the bonds continuing to be bid with the $SPX moving lower. The message of the market is exhibiting signs of change in my eyes. I don’t want to sound any overall warning bells just yet, but I am tuned in all day, every business day.

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Rafael Zorabedian
Stock Trading Strategist

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This content is for informational and analytical purposes only. All essays, research, and information found above represent analyses and opinions of Rafael Zorabedian, and Sunshine Profits' associates only. As such, it may prove wrong and be subject to change without notice. You should not construe any such information or other material as investment, financial, or other advice. Nothing contained in this article constitutes a recommendation, endorsement to buy or sell any security or futures contract. Any references to any particular securities or futures contracts are for example and informational purposes only. Seek a licensed professional for investment advice. Opinions and analyses were based on data available to authors of respective essays at the time of writing. Information is from sources believed to be reliable; but its accuracy, completeness, and interpretation are not guaranteed. Although the information provided above is based on careful research and sources that are believed to be accurate, Rafael Zorabedian, and his associates do not guarantee the accuracy or thoroughness of the data or information reported. Mr. Zorabedian is not a Registered Investment Advisor. By reading Rafael Zorabedian’s reports you fully agree that he will not be held responsible or liable for any decisions you make regarding any information provided in these reports. Trading, including technical trading, is speculative and high-risk. There is a substantial risk of loss involved in trading, and it is not suitable for everyone. Futures, foreign currency and options trading contains substantial risk and is not for every investor. An investor could potentially lose all or more than the initial investment when trading futures, foreign currencies, margined securities, shorting securities, and trading options. Risk capital is money that can be lost without jeopardizing one’s financial security or lifestyle. Only risk capital should be used for trading and only those with sufficient risk capital should consider trading. Rafael Zorabedian, Sunshine Profits' employees, affiliates, as well as members of their families may have a short or long position in any securities, futures contracts, options or other financial instruments including those mentioned in any of the reports or essays, and may make additional purchases and/or sales of those securities without notice. Past performance is not indicative of future results. There is a risk of loss in trading.

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Rafael ZorabedianAfter spending years as an active trader across several capital markets, Rafael earned his stripes as a former futures and options broker specializing in equity indices, energies, metals, and soft commodities. He prides himself on identifying potential opportunities that feature a "confluence of indicators". In addition to featuring a technically analytic approach, he is in tune with the macroeconomic themes that influence pricing across many markets. Rafael is the author of "Stock Trading Alerts" at Sunshine Profits.

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