Bond Bear Eyes Tactical Long In Treasury Notes | David Cervantes

Episode Summary

Executive Summary: David Cervantes of Pinebrook Capital argues the U.S. economy is still too strong for a near-term recession, driven by nominal income growth, stimulative fiscal deficits, and resilient labor/consumer balance sheets. He thinks the bond selloff reflects higher real rates, term premium, and tighter expected policy, but sees the 10-year as tactically attractive near 4.75% as growth moderates. Equities look less compelling because too much optimism is already priced in.

Main Topics: Background and Trading Approach (Priority: 4/5): Cervantes explains Pinebrook is a personal investment vehicle, not an outside-money fund, and that he mainly trades macro through rates futures, some ETFs, and option spreads rather than single stocks. Why He Moved Off Recession Watch (Priority: 5/5): He initially feared recession in late 2022 because housing transactions froze and rates spiked, but concluded the key transmission was construction spending/employment, which stayed strong, so a housing-led recession did not materialize. Bond Selloff and Rates Analysis (Priority: 5/5): He attributes higher long yields to rising real rates, stronger nominal growth, tighter policy expectations, QT, and expanding Treasury supply/term premium rather than a renewed inflation breakout. Monetary Policy, Fed Dots, and Nominal GDP (Priority: 5/5): He argues monetary policy should be judged by nominal GDP growth, not just fed funds. The Fed’s upward growth revision and lower unemployment path implied policy was too loose, forcing a repricing in yields. No Recession, but Slowing Ahead (Priority: 5/5): He expects a slowdown and possible volatility, but not a recession in the next three to six months. Any recession risk, in his view, is more likely pushed into late 2024 or 2025 unless a shock occurs. Equities, Earnings, and Asset Allocation (Priority: 4/5): He is cautious on equities because markets already price in strong forward growth, especially with concentration in the Mag Seven. He prefers tactical long duration and only opportunistically buys stocks at lower levels. Underrated Indicators and Macro Framework (Priority: 4/5): He criticizes rigid indicator-based frameworks, especially PMIs in this cycle, and favors contextual analysis of nominal spending, labor data, fiscal stimulus, and policy mechanics over single signals.

Key Arguments: The housing market did not cause a recession because the economically relevant variables were construction spending and construction employment, which remained at or near all-time highs. Bond yields rose mainly because real rates and term premium increased as the economy re-accelerated, not because inflation expectations surged. A rising nominal GDP path implies monetary policy is too loose, even if fed funds is already at a cyclical high. The Fed’s September message was hawkish mainly because it removed expected cuts and raised growth estimates, not because it unexpectedly signaled a new hiking cycle. The current cycle is income-driven, not credit-driven, so weak loan growth is less important than nominal wages, nominal spending, and labor-market strength. Large fiscal deficits act as private-sector stimulus and make recession less likely in the near term. Yield-curve inversion is a useful signal but not causal; it reflects policy and inflation conditions rather than directly causing recessions. Equities are vulnerable because forward earnings optimism is already concentrated and heavily depends on sustained nominal growth. A tactical long in the 10-year is attractive after the fast move higher in yields, especially if growth moderates and real rates begin to bite.

Data Points: Construction spending/employment: At all-time highs - Used to argue the housing market was not transmitting recessionary weakness into the broader economy in late 2022. Fixed residential investment (FRI): About -30% late last year - He said this shaved roughly two percentage points off GDP and was a major drag before stabilizing. GDP drag from FRI: ~2 percentage points - Estimated impact of the collapse in fixed residential investment on GDP. Nominal GDP annualized rate: ~9% to 10% - Private forecasts in August were used to argue growth was accelerating too fast for tight policy. Fed unemployment forecast (March 2023): 4.6% - He said the Fed was expecting a recessionary labor-market path earlier in 2023. Fed unemployment forecast (September 2023): 4.1% - He noted the Fed lowered its projected unemployment rate even as the economy stayed strong. Actual unemployment rate: 3.4%-3.5% rising to 3.7%-3.8% - Used to show the labor market remained tight despite the Fed’s earlier recessionary expectations. 10-year Treasury short entry: 3.78% - He said he shorted the 10-year when yields were around this level. 10-year Treasury exit on short: 4.18% - He covered the short in early August after yields rose sharply. 10-year Treasury retrade short: 4.22% - He re-entered short duration after returning from vacation. 10-year Treasury cover: 4.27% - He closed the tactical short for a small profit before CPI/PCE. 10-year target to go long: 4.75% - He publicly tweeted this as his level to add duration and said he is now long near that yield. 10-year long entry: 4.74%-4.75% - He said he is tactically long duration at this yield level. Real 10-year yield target: 2.5%-3.0% - He said real yields near this range could become restrictive and slow the economy. Fed funds rate: ~5%+ cyclical high - He called current policy rates a cyclical high, but argued rates alone do not define policy tightness. U.S. deficits: ~8% of GDP - He called this a huge fiscal stimulus and a major reason recession risk is low. Initial claims / continuing claims: Rocking - He cited these labor indicators as evidence of continued nominal income strength. Forward P/E on equities: ~17.5x - He used this to argue mid-3900s on the S&P 500 would be a more attractive equity entry point. Potential equity entry level: Mid-3900s on S&P 500 - He said he would be more willing to buy stocks around a 13% correction from July highs. S&P 500 correction from July highs: ~13% - His estimate of downside needed to make equities more compelling. New York Fed ACM term premium: From -95 bps to positive - He said the move in term premium was a major part of the bond selloff.

Pivotal Quotes: "If you have an acceleration in nominal growth with that, then by definition, [policy is] too loose." — David Cervantes: He explains why rising nominal GDP forced him to conclude that monetary policy was still not restrictive enough. "An inverted yield curve does not cause recessions. An inverted yield curve tells us where inflation and the policy rate is today and where it's likely going to be tomorrow." — David Cervantes: He separates correlation from causation in recession forecasting. "The market has no memory. We have memories and we conflate that upon the market, but the market has no memory. It doesn't care." — David Cervantes: He warns against relying too heavily on historical pattern-matching in macro markets.

Implications: Listeners should expect continued volatility in bonds and a softer but not recessionary economy near term. Duration may outperform if growth cools, while equities may need a reset before becoming attractive again.