As we all know, the MBS market is personified by a big green dragon.   So far in 2016, the dragon has been breathing plenty of fire.  Less publicized is the fact that the dragon breathes air just like you and me.  But like any firebreathing creature, and indeed like anything that goes on village burning rampages for a living, he needs a quick breather from time to time in order to restore the village-burning potential.  The hotter the fire, the more inevitable--and sometimes, the bigger--the pause.  

As we began discussing yesterday on MBS Live, it wouldn't be a surprise to see that sort of consolidation after such a quick move to such long-term lows (or 'highs' in terms of MBS prices).  The timing of the bounce is reinforced by a few factors.  First and foremost, there's the simple inhale/exhale dragon analogy.  When markets run hard enough in one direction, traders look for a bounce, either to book profits on trades already made, or to get in on some short term profits from the correction that typically follows the big moves.

CRT Capital's Ian Lyngen put it in simple terms in a client note this morning: "We've been looking for an opportunity to short the Treasury market on the assumption that at least a consolidation will be needed before pressing towards lower yields - but this hasn't been the week for a bearish call."

That sums it up nicely.  Traders know a pull-back of some magnitude SHOULD be coming, and there's certainly a  desire to get on board with any likely move in any corner of the market.  But timing is important, and traders don't want to join the move too soon--something that could have easily happened on the last few occasions where bonds have rallied big and pulled back.  

Adding to the natural conclusion about bonds pulling back simply because they've run so hard, we also have increasingly compelling technicals.  In particular, several of the momentum indicators are squarely in "overbought" territory.  Think of this like fertile soil from which reversals can emerge--a primed pump, if you will.

So far today, we've seen a modest amount of weakness.  But even after the strong Retail Sales data, it's not yet clear if today will offer the confirmation traders are looking for in order to sell bonds in any major way.   In the bigger picture, although today's bounce does contribute to the aforementioned technical reversal signals, it is merely restoring bonds to their previous trend channel (as opposed to carrying them anywhere near levels that would make us think about a long-term bounce).  

For what it's worth, this uncanny "resilience after a big rally" is not the baseline scenario for most market participants.  Don't be surprised if the sell-off gets a bit bumpy in the event it actually starts in earnest.  But if this sort of tepid correction is all we get--if this is all the more breath the dragon draws, it bodes well for the sustainability of the rally.