Anatomy Of A Rally: Why Bonds Are Trading The Way They Are

The chart below is likely one of the most confusing and cluttered I've put together.  Just stick with me here as the sections are numbered so we can break them down individually. 

Section 1: After falling overnight, yields drift lower but 3.27 was an attractive enough level to cause the first big volume spike of the day.  That makes 3.27 important right off the bat because it shows us that a good amount of money is motivated by these levels.  "motivated" and "attractive" don't necessarily mean accounts want to buy at that level though...  Some of the volume comes from investors being "motivated" to drive yields down until they reach 3.27 and then back off.  And some of the volume is indeed "motivated" by 3.27 looking like a good time to take profits.

Section 2: The heaviest volume of the day continued to drive yields down with the focus firmly on 3.2 /3.21.  That "abatement" of the volume just as yields near 3.2 is our second clue of the day, and a suggestion that this is also a level to watch. 

Section 3. At this point, keep in mind that a lot of the biggest players have made their biggest moves.  In some of the lower volume of the day, yields again approach 3.20,  But we see a swell of moderate volume pick up, driving yields back up.  The 2nd half of box 3 sees it's own concentration of volume, again around that 3.27 level, effectively putting a cap there on the day.  Once the chart hit's 15:00, that's the close and nothing else mattered...

Section 4: Domestic markets again woke up to lower yields.  There was a freefall through the 3.20 support, but then a huge surge in volume around 3.10 sent a clear message of this AM's new line in the sand.  In the 2nd half of box 4, notice that the volume swells again, even higher than before, all in favor of pushing yields up.  But once yields reach that magical 3.2 level, what happens?  It's a feeding frenzy followed by satiation. 

Section 5: As yields drifted lower (apathetically in the context of the volume that had just been seen) a triangle developed that effectively said "ok, we're not going over 3.20, but we're also not taking this thing down to 3.10 again either.  Once the triangle terminates at the inception of box 5, we see our last meaningful volume surge of the day bringing things back up to 3.24+  (3.24+ and 3.18+ are two other important yield levels that saw more usage as pivot points).

Whew....

Throughout all of this, MBS is playing the role of some shell-shocked bystander.  Briefly this AM, they came along for the ride, leaped high into the air shouting "look dad!  I can jump really high too!"  But then treasuries shooshed the little tyke and said "quiet son... Daddy's working..."  (I also tacked on another chart in treasuries with less clutter so you could see the 4 horizontal levels discussed above).  Bottom line is that the exact same lock bias discussed yesterday remains in effect, and it will remain in effect unless treasury yields were to break below 3.20 and CONFIRM it, AND would also be predicated on some miraculous turn of events that would allow MBS to exist above the mid 102's without self-sabotaging the mortgage market as it did in the first part of 2009.