MBS Day Ahead: Are Bond Markets About to Break the Range?

First thing's first: "mortgage rates" themselves, have clearly already broken the 2014 range, having moved into the best levels since late October over the past 3 days.  Beyond that however, both in terms of post-roll MBS prices and Treasury yields, underlying markets remain range-bound, even if only by the outer layer of the skin of their teeth.

Because spreads between MBS and Treasuries have been so historically stable and because Treasuries do so much more to comment on the technical landscape, defining the range in terms of 10yr yields remains the best bet when it comes to assessing the possibilities for MBS.  So what do charts suggest? 

On one hand, doesn't it just "feel" like bond markets have been doing better and better?  Well yeah, they have been, even after we factor out the part of that feeling that comes from our lowered expectations (itself, a gift from 2013).  In general, what had been a sideways-to-higher range through mid-April has decidedly shifted.

Those nice, tidy, quick little bumps against the lows earlier in the year spoke volumes about the lack of interest in moving lower.  They stand out in hindsight as "token" moves, or corrections against an already fairly apathetic uptrend.  Obviously that's changed, but is the change organic, or merely a byproduct of geopolitical risk and the advantageous trading that's taken place around it?

In truth, we can't know yet.  10's still haven't broken the range, and until more unfolds (or is prevented from unfolding) in Ukraine, we can't be altogether certain.  What we can observe, however, is a bit of a rekindling of some of the technical studies that have been lifeless for the past few weeks.  They're finally making suggestions again, but just not the kind you'll probably like.

To recap the chart above:

1. The top section has 10yr yields enveloped by Bollinger Bands.  When yields hit the outside band and begin to move away (or "lift off" as it's labeled above), chances increase that they'll return to the middle band.  We're finally seeing some discernible lift-off now. 

2. The purple/green section is a Stochastic study.  Simply put, when the purple line crosses above the green, it implies higher chances of yields moving higher.  When that cross takes place below the horizontal purple line and is followed by a break of that horizontal line, the signal is even stronger.  We don't have the break yet, but it wouldn't take much weakness to create it.

3. The blue histogram is a MACD forest.  When the lines are under the mid-point and moving from longer to shorter, previously positive momentum is shifting higher in rate.  A break above the mid-point strengthens the signal.

4. The bottom section is RSI, and simply speaks to "overbought" vs "oversold."  The easiest way to think of these terms is that markets don't typically keep momentum in one direction every day.  Overbought/sold indicators attempt to identify those times where a security has moved so much in one direction relative to it's recent behavior that a correction is likely (even if the underlying trend resumes).  The break below the lower horizontal line = overbought. 

One additional point about RSI...  When the RSI line bounces on a horizontal level as it has in mid April and early May, AND when the actual security made a new low in May, this is a "divergence."  In other words, the technical indicator is saying that momentum stopped out at the same level as last time even though yields made new lows.  In this case, RSI is calling Treasuries out--saying their rally lacks the underlying momentum that might grant it more life.

The conclusion on all of the above is that most of the common technical indicators agree that some measure of pull-back is more likely than more rallying.  That said, they don't have a direct comment on what happens after that pull-back.  In short, there's room for longer term hope, and increasing reason for shorter term caution.