Synthetic Systems 2024.25

The Synthetic Systems Quarterly update has been posted for 2024.25. On the site Menu, click Market Analysis.

Historically Synthetic Systems’ Bond forecasting has been almost eerily accurate, routinely outperforming Wall Street consensus. So it is with some regret that I suspend publication of the series. That historical outperformance has been notably absent since 2020, and I haven’t yet determined how to restore it. The underlying problem apparently has to do with the great increase US Treasury issuance that occurred in 2020, particularly in the maturity distribution. The increased issuance has been heavily weighted in the maturity range of less than one year, where price changes are most heavily dominated by Federal Reserve rate policy and relatively insensitive to supply, in effect shielding price and yield from the bulk of its impact in that range. Yet overall Treasury supply is a key influence on price and yield across the curve.

Until now I’ve simply accompanied SS releases with an extra disclaimer about the Bond plot, but remain concerned that the small print could be overshadowed by the visual impact of the plots themselves. Along with the growing tediousness of repeating these caveats with every release, I think the balance of benefit lies in simply suspending the plots.

This choice is further reinforced by last year’s addition of the Notes plot, which in fact covers the entire range of Treasury maturities and renders separate Bills and Bonds plots partially redundant while being relatively unaffected by the maturity distribution of issuance. As indicated in the linked post, Notes has been since its introduction the main Treasury plot. The Bills and Bonds plots remained mainly to provide cues as to how returns may vary with maturity, but have also on occasion been a source of confusion as they relate to theoretical zero and infinite maturities bookending the Treasury market, in contrast to the much more real world Notes plot. So with this release the Bills and Bonds plots are suspended and the Notes plot is renamed simply and more accurately Treasuries.

As always, reader comments are welcome.

Synthetic Systems 2024.25

4 thoughts on “Synthetic Systems 2024.25

  1. Finster says:

    The commodities picture remains bullish, especially in fiat terms. But in the near term they’re in overbought territory and approaching levels at which a consolidation or retreat is likely. This applies to gold, copper, oil, and broad commodity indices like the energy heavy SPGSCI.

    For example I don’t see gold exceeding $2400 without such a consolidation or retreat first. The main risk to gold is another hot final inflation report. Counterintuitive as it may seem, inflation headlines are not bullish for gold since they augur a policy response. Gold responds best to inflation when it’s actually happening, not when lagging conventional inflation metrics record it. Investors that complain gold isn’t a good inflation hedge are late to the party by virtue of failing to appreciate that the widely followed consumer-price-based inflation measures lag actual inflation. Policymakers are likewise perpetually behind the curve for the same reason.

    The longer term bullish case however remains powerful. The US Treasury’s voracious appetite for debt persists and there little movement to even tap the brakes. The Federal Reserve is under intense pressure to monetize. It is also under continuous pressure from Wall Street to inflate stock prices and to keep the banking and financial system well lubricated. The Fed will throw the inflation-beset public under the bus to please these powerful constituencies, which is bearish for the value of the dollar and bullish for commodity prices across the board.

    1. Finster says:

      Well I wasn’t expecting such immediate gratification on the stall call, but it’s only one session. Nevertheless today’s gold action could herald its arrival. Traders might exercise caution here, but longer term investors might take advantage of some temporary price relief if they’re below their target allocation.

      Oil on the other hand rose, suggesting the underlying inflationary fundamentals remain intact. The same late session surge in oil prices may also explain the sudden late session plunge in stocks.

      The odd man out was the bond market, uncharacteristically rising with oil. This suggests these displacements may be more temporary corrections to overextended trends.

      Pay no attention to Fed-obsessed media attempts to rationalize today’s action in Fed terms. While Neel Kashkari did cite the possibility that no rate cuts might be needed, and it is possible markets are finally coming to grips with the possibility that their rate cut dream isn’t going to come true, that wouldn’t explain a simultaneous stock selloff and bond rally.

  2. Finster says:

    A word about bonds. I do not like them. As a matter of policy I hold a minimum allocation to offset the short position embedded in equities and give a nod to the global market portfolio. On a secular basis, the four decade bull market appears to have ended in 2020. Treasuries are further issued by a bankrupt government with no one in charge showing much interest in even tapping the brakes. Bonds of other issuers. even responsible ones, all key off Treasury prices so offer no refuge. The sovereign mode of default is inflation and all securities whose cash flows are fixed in dollars suffer.

    The cyclical picture is also negative, as indicated by the descending green line. Besides the aforementioned policy floor, the only other use for them is swing trading, where I’ve put on a couple short term trades in the oversold 10-30 year maturities.

    The extreme short end, under 1 year in maturity (TBills), gets an overweight share of my Treasury allocation as a high yielding cash proxy. The part of the yield curve between 1-10 years (TNotes) is my least favorite, as it still embeds remnants of the Fed-is-going-to-cut-rates meme. The part beyond 10 years (TBonds) is at least for now relatively safe from Fed-related false premises.

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