We are definitely not bond trading experts at the TradingPub... luckily for you though, we know of someone who is! Special thanks to Team Hamzei Analytics and George Cavaligos for the following guest post:
Year end often brings us to preview the coming market environment. The biggest factor in the Bond market these days remains the FED and the Quantitative Easing activities of the FED which are continuing and increasing as the new year begins.
We have seen the QE3 purchases of Agency Mortgage Bonds (MBS) that started in September 2012 and now we will see the start of QE4 and the broadening of the current FED QE program into the outright purchases of Treasuries. The QE 3+4 programs are open ended with the Fed initially seeking to purchase about $40-45 billion each of mortgages and treasuries per month. The Fed has left them selves quite a bit of flexibility as towards these programs and can change the timing and amounts of these programs pretty much at will.
Going forward I think that will add a lot of volatility to the markets as traders will have to gauge the Feds feelings from FOMC meeting to FOMC meeting and whether we think we could see a change in the amounts or duration of these programs. The first quarter of the year will most likely be a pretty much as advertised by the FED, but after that we will have to be more vigilant towards changes in these programs.
We can see from the below daily active front month bond chart that the market has been range bound since the early summer 2012, has that consolidation ended? My first glance at the chart says be patient and look for more sideways range trading as ones first inclination, but always be watchful for any signs that the market has returned to a trend ready mode. The recent data from the FED has shown a big increase in large Primary Dealer long Treasury positions as they prepare for the New Year and the start of QE4. We have found that following in the dealers foot steps to be a better path for traders of our ilk than not.
The fiscal cliff battles and the typically weaker equity markets in the first year of the Presidential cycle also have us leaning towards buying on dips and then getting out of longs into the Fed’s purchases as our initial shorter term game plan for the New Year. The medium term wave count is a bit of conundrum to me at the moment. Typically a 5 wave structured sell off will end a correction like this one and, if my count is correct, we are still missing a clear 5 wave sell off, so with a 7 day rally off the recent lows and perhaps overbought, we are on our toes for a possible retest of the lows in the medium term.
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