Treasury Rally Pauses for Breath as Short Positions Unwind

Treasuries are finally taking a break following a relentless rally that dragged the 10-year yield down to levels last seen in February.

The benchmark rate plunged more than 10 basis points Monday on the back of worries about the delta variant’s economic impact, and kept spiraling early Tuesday. But it then rebounded and posted its first daily gain in a week, closing at 1.22%. The shift came as stocks also rose, with investors stepping in to buy following Monday’s dramatic equity selloff.

The rally has been widely associated with unwinding of stretched short positions in bonds, which have now begun to ease, allowing markets to catch a breather. JPMorgan Chase & Co.’s Treasury Client Survey on Tuesday showed net positioning is now the least short since April 19.

Whether the recovery in yields has legs remains to be seen, but at least one technical indicator suggests that it might. The yield on the 10-year got as low as 1.126% Tuesday, but created a so-called hammer formation because rates snapped so far higher.

Treasury Rally Pauses for Breath as Short Positions Unwind

“It’s probably a bit early to tell if we have reached a local bottom in yields, but the way we have reached the lows and traded today would suggest that we have,” Jorge Portugal, managing director in sales and trading at Buckler Securities, wrote in a note to clients. “We will keep an eye on positioning surveys and reports, and observe the trading patterns in the next few days to see if the shorts in duration have cleared.”

The earlier rally in Treasuries was spurred by growing concerns about the delta variant that sent traders rushing to pare back their bets on Federal Reserve rate hikes.

Eurodollar and Treasury futures volumes were elevated Tuesday and options activity was robust across the curve.

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