KEN GRANT: Rules 1a and 1b (June 4)
Rules 1a and 1b
June 3, 2018
He’s a worldwide traveler, he’s not like me or you,
But he comes in mighty regular, for one who’s passing through,
That one came in his work clothes, he’s missed his last bus home,
He’s missed a heluvalotta buses, for a man who wants to roam,
And you’ll never get to Rome, Son, and Son this is Rule 2
-- P.D. Heaton
I gotta say, I love Rule 2, so much so that I even included it in my book (remember my first book?). But before we get to it, we must first, as a matter of protocol, pass, wherever it may take us, through the portal of Rule 1. Moreover, while Rule 2 is fixed for all time, Rule 1 has historically been a bit more elusive.
Moreover, recent events point to its partitioning. Hence, I give you Rule 1a: TIMING IS EVERYTHING; and RULE 1b: IT’S ALWAYS IMPORTANT TO KNOW THE SCORE.
In comforting consistency with the age-old platitude, Rules 1a and 1b, are defined by their exceptions, of which this week there were several, of varying form and consequence. Having no better alternative, I have chosen to highlight a few pertinent examples – in chronological order.
Wednesday morning, Northbrook, IL-based Pharma concern AbbVie completed the buyback of its shares – taking the form of a Dutch Tender Auction (a nuanced transaction type that I won’t bother to explain -- mostly because I don’t myself understand it). The Company’s intent to do so was known in advance by investors, as was the associated amount ($7.5B). The only unknown was the price it would pay, proclaimed in the pre-open to be $105/share. Later that afternoon, however, Management awarded itself a mulligan, informing the markets that the real price was $103. The pricing action attendant to this regrettable error is as follows:
Let’s all agree that the guys and gals in the AbbVie C Suite have had better weeks.
Further, it would seem that the Company violated Rules 1a and 1b, by failing to know the score, and by mistiming by several hours the announcement of the correction.
I am sure, however, that they have learned their lesson and will, at the point of their next Dutch Tender, reveal the appropriate price at the appropriate time.
Moving on across the week, we turn to the misanthropic Earl Joseph (J.R.) Smith III – Shooting Guard for the Cleveland Cavaliers. Smith and the LeBron-led Cavs entered the 2018 NBA finals as deep dogs to the annoyingly flawless Golden State Warriors as any I can remember. But with a gritty performance in Thursday night’s opener, the team was poised to snatch Game 1, when teammate George Hill stepped to the line for the second of two free throws, which, had it gone in, would’ve given the Cavs a 1-point lead with about 4.5 seconds to go. But Hill clanked it and Smith grabbed the offensive rebound. However, instead of shooting the rock, or passing it to arguably the greatest player in NBA history (sorry MJ) for a buzzer beater, he dribbled out the clock, sending the game into overtime, where the Warriors trounced.
Some debate has ensued as to whether, at the end of regulation, J.R. knew the score, but, indisputably, his timing was off, and now his gaffe passes into history as one of the most bone-headed plays of all time.
All of which brought us to Friday morning and a much-anticipated April Jobs Report. At 7:21 EDT, President Trump issued a casual tweet that he was looking forward to the 8:30 a.m. release. Not knowing for sure what this meant, but being aware of our Chieftain’s tendency towards bravado, a segment of savvy, early rising market participants suspected that the number was going to be a good one, and promptly bought stock futures and sold bonds.
Well, waddya know? The number was indeed strong. Nonfarm Payrolls, the Base Unemployment Rate and even Hourly Earnings were all encouraging. And yes, stocks rallied and bonds sold off. Undoubtedly, here, the Trumpster knew the score, but I’ll go so far as to state my opinion that his tweet timing was indeed off.
The episode set off the usual, wearying cycle of gleeful outrage by the Administration’s enemies, combined with spin control on the part of its friends. But at the end of the day, I ask my readers to keep some perspective here. A review of the SPX and 10-Year Note trading activity during the critical time period between 7:21 and 8:30 does not support overwrought claims of market manipulation:
Nope. Not much happened during the period between when Trump scooped the jobs market, and the actual number became part of the public domain. Still and all, I wish he’d refrain from pulling these types of stunts, because they begin to give me a headache. So I offer the following risk management advice to our Commander in Chief: in those many cases when you know the score, please be careful of your timing. You had all day to brag about the jobs numbers, and a little forbearance (never your strong suit, I know) on your part might save some aggravation or worse.
But now it’s time to move to exceptions to Rule 2. Contrary to our thematic quote, I did, at least rhetorically, manage to make it to Rome last week. For lack of anything else interesting upon which to opine, I actually wrote extensively about pricing problems associated with the government debt issuing forth from that glittering capital. My timing here (it must be allowed) was impeccible, but I will in no way claim to have known the score. It came as a fairly significant surprise to me that the political throw-down in that ancient seat of wisdom would roil the global bond markets, with collateral damage spilling over to other asset classes.
But it did. Roil the bond global markets that is. Yields on the Benchmark BTP Note, having traded all year in about a 20 basis point range around 2.00% careened up to a high of 3.15% before settling on Friday at a still elevated but entirely more civilized 2.67%. The unfailingly neutral Swiss Bond stayed negative. Presumably, in a frenzied flight to, er, quality, market players bid U.S. yields – which recently hit a multi-year high of 3.11%, down to 2.78%.
I do suspect, however, that there were other, slightly technical factors that impacted these tidings. As has been reported multiple times in these pages, net short speculative open interest in 10-year futures has been hitting, and for the most part retaining, record highs in recent weeks:
So, when the big Treasury rally hit us on Tuesday, it had to me the look and feel of a short squeeze. Since Tuesday’s blowout, and in light of Friday’s Jobs Report, the U.S. 10 Year Note has since sold off to a yield of 2.90%.
I suspect that the shorts will have another go at it this month, and that we will not only test 3.00% yet again, but probably break through and hold at these levels.
In addition, after allowing on Wednesday approximately $28B of our paper to expire without repurchase this past week, the Fed Balance Sheet now stands at a paltry $4.3275 Trillion – its lowest level in 4 years. If our Central Bankers have their way, this number will decrease at an accelerating rate over the coming months and quarters.
So, with the big dog domestic buyer in belt-tightening mode, uncertainty about foreign demand among traditional owners of our paper (with whom we may now be commencing a trade war), the logical path of rates probably remains upward. Plus, the economy – even beyond the jobs report – is showing signs of feeling its oats, as evidenced in part by the impeccably accurate Atlanta Fed GDPNow Forecast:
Yes, you read that right. The boys and girls down in Georgia have Q2 GDP clocking in at 4.8%. I personally believe this is something of a pipe dream, but if that’s the number (and we won’t know until late July), then you can be pretty certain that the 10-year note will be throwing off a pretty significant amount of incremental vig.
Again, I think this number will come down considerably before it’s official, but it does seem likely that the bond bears may yet have their day.
But timing will be everything, and here’s hoping that Trump can keep his twitter finger in check. Otherwise, we may just have to move on to Rule 3.
And trust me, brother and sisters, you don’t even want to know what Rule 3 is.