MBS Live Day Ahead: Thanksgiving Week in The Bond Market

Compared to stocks, bond markets tend to be more affected by changes in market participation surrounding holidays and other sources of illiquidity.  Liquidity is closely related to volume, but is certainly not the same.  The shortest definition of liquidity is "volume at price."  In other words, if there is a decent volume of buyers and sellers interested in trading at any given price, that's a liquid market.  Contrast that to volume which simply counts the size of the trades in question.  Volume could be very high if there are a few very large buyers and sellers only interested in certain price levels, but that would not be a liquid market.

The worst of both worlds in terms of frustration for market watchers is a low volume, illiquid trading environment.  That means it takes fewer dollars than normal to move markets AND that yields/prices may have to jump a wider-than-normal gap to get to the next island of liquidity.  The net effect is that bonds can gain or lose ground for no apparent reason and the movement can be a lot bigger than "no apparent reason" (which is usually just  the result of a medium-to-large trade hitting the tape) typically generates.

If this isn't your first day reading the MBS Commentary, you've probably come across the term "snowball buying/selling."  This refers to self-sustaining momentum in bonds where buying (or selling) pushes prices high (or low) enough to serve as a trigger for the next potential buyer (or seller).  As you might imagine, a market with fewer participants and wider gaps between them is high risk zone for snowball moves.

Fortunately, the traders who remain in the office this week have certain limits beyond which they'll fold their hands or simply go all-in.  Those limits directly translate to the recent range boundaries (probably... at least that's the what we typically see when we have the sort of indecision seen in the chart below heading into a holiday week).

The more involved way to watch the range would be to consider the converging teal trendlines.  One of those will have to break in the next 2 weeks (simply because they're converging).  The more relaxed way to watch would be to wait for a break above or below a recently relevant pivot point, like 2.30 or 2.41%.  Even then, any break of any technical boundary this week is irrelevant in the bigger picture, as next week's tax reform debate is likely to dictate the next move, even if it means forcing yields to jump back across the technical level they'd just broken through.

Bottom line: it's a week for strict intraday observation and reaction.  If it ends up moving in the same direction as next week, it will be simple coincidence.  Those who aren't inclined to lock yet will be watching for breaks above higher pivot points (2.37, 2.41, 2.47 at the worst).  Those who aren't inclined to float can lock any time as lenders aren't as eager to pass on bond market gains on Thanksgiving week anyway.