July 8, 2021 | Inflated Expectations Set for Disappointment

We used the opportunity of lower Treasury prices (higher yields) over the last three months to add government bonds to our portfolios.  We used the successful retest of $1.20 on the USD/CAD to add back US dollar exposure in June.  As we are seeing again this week, these are the rare assets that offer income and capital gain opportunities when over-hyped, highly-leveraged risk markets lose lift.

My partner Cory Venable’s chart of the US 10-year Treasury yield below since 2013 shows the 1.72 yield peak at the end of March and roll over to 1.48 by the end of June.  Under 1.29 this morning, a retest below 1% (green box highlighted below) remains our base case as the reopening/inflation trade runs out of steam.

In the first half of 2021, the US dollar was widely unloved with hedge funds the most net-short since 2018.  Historically, this type of extreme negative dollar sentiment has preceded periods of its outperformance against risk assets on the other end of the teeter-totter.

My partner Cory’s chart of the USD/CAD below shows the successful USD retest at $1.20 and the next tests above it.  A break above $1.30 sets up the potential for a return to the $1.45 area (red band).  As in 2016 and 2020, this type of dollar strength is likely to coincide with broad weakness in commodities, equities of all stripes, and corporate debt.

A multi-month-mean reversion period for risk assets is overdue and deserved now more than pretty much any other time in history.

Most people are bulls until their holdings get clobbered, and then they turn uber-bearish after the fall. To survive and thrive through mean market cycles, we must manage both our emotions and capital to do the opposite of the masses.  Yes, we can.

Danielle Park July 8th, 2021

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