MBS RECAP: Widespread Positive Reprices as Speculators Get Flushed

Given the pace and scope of recent bond market weakness, there are more than a few traders that have open bets on rates moving higher--aka "shorts."  This isn't always as simple as a bet on rates in general, but can also come in the form of bets as to the shape of the yield curve.  In other words, will 10yr yields get closer or farther away from 2yr yields?  Will 30's get closer or farther from 5's, and so on... 

At a certain point, these bets will be covered if the market moves far enough in the other direction.  In other words, if I'm betting on higher rates (aka "selling short") and rates fall a certain amount from their most recent high, I will cover (aka "short-covering") my position by buying.

That's exactly what happened in German Bunds during the overnight session.  It happened all across Europe, for that matter.  Even Greek debt rallied (so once again, you know it's not about the Greek negotiation failure headlines).  The German Bund rally was twice as strong as the move in Treasuries through the morning hours. 

Domestic traders were waiting for the auction to cover.  Some couldn't wait, and that was evident in the rally leading up to the auction.  Afterward, however, it was game on, and we were treated to the biggest rally of the entire April/May/June selling spree.  For perspective, it happened on a day where Treasury yields hit their highest levels in more than 8 months (10yr at 2.50 overnight).  Point being: it was a great day, but it's not a trend yet.  So far, all we know is that a big chunk of speculators betting on higher rates (or wider gaps between 10yr yields and shorter term Treasury yields) got flushed out today.  There was no other organic motivation for the move.