Leveling the Playing Field

January 12, 2015

______________________________________________________________________________
Well it only took a week for the Dallas Cowboys to blow up one of my lead pipe locks. And
even less time for Cowboys fans to email me.
Fridays job reports were another solid report, if not quite as strong as last months blockbuster
print. The economy added 252k jobs, just slightly above expectations; however, the market took
a collective sigh of relief as last months report was not revised lower. In fact, the previous two
months were revised higher by a net 50k jobs.
Thats a strong three month trend with an average gain of 289k jobs per month. The six month
trend is a gain of 264k jobs. Both are the highest since 2000. The unemployment rate dropped
sharply to 5.6%, the lowest since June 2008. Let all of that sink in for a moment.
There were some negatives, however. The drop in the unemployment rate was largely
attributable to a drop in the labor force participation rate driven by net loss of 273k job seekers.
Hourly wages also decreased, suggesting that employers are still able to keep pay low. This also
suggests inflation is not right around the corner.
After the job reports, several notable Fed Doves made comments to imply the hike is coming
later rather than sooner. The two most important:
-

Atlanta Fed President Fed Dennis Lockhart prefers to hike a little too late over risk of
hiking early and still sees the first hike coming mid-year or later.

Chicago Fed President Charles Evans (voting member this year) said the Fed should not
hike before 2016. He is one of the most dovish members of the Fed, but still we should
not ignore these comments.

FOMC
The FOMC minutes from the last meeting revealed nothing new on Wednesday, basically
reiterating what Yellen & Co have been saying all along. Patience and data dependence will be
the watchwords in the coming months.
Perhaps the only slight surprise was that the Fed seemed to give global conditions more
significance than implied in the formal statement, but that they expected central banks to

intervene aggressively. Internal discussions suggest the FOMC views the overall risks to the
economic outlook as nearly balanced and the drop in oil prices is a net positive outcome for
the domestic economy.
The Feds dual mandate of maximizing employment and controlling inflation is setting the stage
for a tricky 2015. With the unemployment rate dropping rapidly, a hike would be warranted.
This is offset, however, by the lack of inflation. So what to do
Yellen reiterated that normalization wont begin for a couple of meetings, which puts April
technically in play. We still think June is the likely first hike with a bias towards later.

ECB
The ECB is about to embark on additional QE of some sort, likely an asset purchasing program.
There was some chance of initiating QE in December, but Draghi has said they want to examine
the impact of falling oil prices before committing to another round of intervention.
We expect the next round of QE to include a quantifiable amount as opposed to QE4EVA,
perhaps if for no other reason than to appease Germany. It also means that the Eurozone wont
be experiencing rate hikes for at least two or three years.
Aggressive central bank intervention abroad gives Yellen coverfire for rate hikes here.

Long Term Rates

We called for the 10T to break 2.00%, we just didnt realize it would happen a few days into the
New Year. We also said it would not break through 1.86%, and that is looking like a suspect call
right now!
Heres the rub the only time in history that traders had a more net short position on the 10yr
Treasury than they do today was in early 2010. It is perhaps the most crowded trade right now
(other than the one involving the Seahawks making the Super Bowl).

What happened then?

Just the biggest short squeeze in history.
The 10yr Treasury promptly traded from 4.00% to 2.50%, crushing the P&L for countless
Treasury traders and delaying the purchase of that house in the Hamptons.
A comparable move today would push the 10yr Treasury down to the 1.35% range. We will
stick to our guns that the 10T wont break 1.86% (gulp), but we have about as much conviction
on that as we do that the Mueller investigation into the NFL was independent.
Heres what is in play the collective trading community is net short, by a lot. This has a carry
cost as well as the standard trading loss as yields move lower. Sooner or later, just like we saw
on October 15th, everyone hits the buy button to cover the shorts. This creates a dramatic
movement lower in a very short amount of time.
Things feel range-bound and we continue to have strong conviction that Eurozone yields are
keeping a tight leash on US Treasury yields.
Pretty quiet week ahead, with no headlines that scream pay attention here! No newsletter next
week as I take an undeserved vacation toParis. Seriously.

Economic Data
Day

Time

Tuesday

9:00AM

NFIB Small Business Optimism

2:00PM

Monthly Budget Statement

7:00AM

MBA Mortgage Applications

8:30AM

Retail Sales Advance MoM

-0.10%

0.70%

8:30AM

Import Price Index MoM

-2.90%

-1.50%

2:00PM

US Federal Reserve Releases Beige Book

8:30AM

Empire Manufacturing

8:30AM

PPI Final Demand

8:30AM

Wednesday

Thursday

Friday

Report

Forecast

Previous

98.5

98.1

$10.0B

11.10%

5.00

-3.58

-0.40%

-0.20%

Initial Jobless Claims

292K

294K

2402K

2452K

19.5

24.5

-0.40%

-0.30%

8:30AM

Continuing Claims

10:00AM

Philadelphia Fed Business Outlook

8:30AM

CPI MoM

9:15AM

Industrial Production MoM

0.00%

1.30%

9:15AM

Capacity Utililzation

80.00%

80.10%

10:00AM

University of Michigan Sentiment

94.2

93.6

Speeches and Events

Day

Time

Friday

8:50AM

Report
Fed's Kocherlakota Speaks on Economy and Monetary Policy

Place
Golden Valley, MN

Treasury Auctions
Day

Time

Report

Size

Tuesday

1:00PM

3 Year Treasury Note Auction

$24B

Wednesday

1:00PM

10 Year Treasury Note Auction

$21B

Thursday

1:00PM

30 Year Treasury Bond Auction

$13B

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