The Macro View

BONUS: “Free” Straddle

From time to time, I'll post an occasional trade.  You'll need a reasonable cost structure to take advantage of this opportunity. On Friday I sent out the following trade: I saw EDZ7 98.625 call trade 1.5 and that seemed really cheap.  The premise of the trade is to get a "zero cost" straddle.  In fact, according to my numbers, I think you GET PAID for owning this straddle.  This would be to buy 100 EDZ7 98.625 call vs Sell 12 FFF8. I'll do the full write-up this weekend.  But basically, the EDZ7 call traded 10K times at 1.5.  FFF8 should [...]

Legging Lessons

Since some of you may be new to ED trading, I may occasionally do a “Trade Basics” segment.  There was an interesting trade that went through on Friday, and I thought I would discuss it.  Almost 25K EDU7-EDV7 spreads traded.  This is a crazy amount to have traded, considering the open interest on EDV7 is only 103K contracts.  I’m assuming this is probably some kind of unwind.  There appears to be an equally unusually large volume on this spread trade on August 2, and since EDU7 rolls off Monday, it seems reasonable to conclude that this was an unwind of [...]

Short End Shenanigans

Since the macro rates picture has been hard to decipher, I think this is a good time to look at the micro.  There are a lot of interesting things going on in the very short end of the curve right now: I. An ease is more likely than a hike. As I mentioned earlier in the week, FFV7 and FFX7 are starting to price in an ease.  FFX7 should settle at 98.843 on a typical non-event month.  Not only did 98.845 trade, it went bid late Friday and some 98.85s traded.  That’s a little crazy, considering we’ve had no new [...]

The Long Term Treasury Rate and Fed Funds Target

Last week, Kaplan suggested that his long term neutral FF rate was closer to 2.5% than 3%.  I’m going to assume that his dot is going to be at 2.625% later this month.  This got me to thinking about the relationship between the Fed’s mean long run Fed Funds rate projection from the SEP[1] and the 30 year Treasury rate.  The Fed actually sets the target Fed Funds Effective rate (“FFER”), and there is generally a tight relationship between the FFER and Treasury rates.  I know people who think of longer run Treasury rates as a strip of Fed Funds [...]

Cute Fact – Years Ending in 7

There’s a cute statistic going around that in the second half of years ending in 7, the equity markets have had poor returns: 1987 (Black Monday), 1997 (Asian Crisis), and the 2007 (Financial Crisis).  Whaddaya know?  2017 also ends in a “7.”  And we just happen to be in the second half of the year. There are a few candidates for catalysts: any of several possible Trumpidity Crises, a North Korean Crisis, an auto subprime Crisis, the brick and mortar collapse crisis, the divided nation Crisis, the Gulf of Mexico Swallowed My Glasses Crisis… the list of possibilities are long.  [...]

Bad Marriage

The Republicans in Congress are in a strange situation with Trump.  It’s like being married to say an embarrassing drunk… you’re constantly afraid of the next stupid thing to come out of their mouth, you don’t want to be seen with them, and they make you look bad at work functions.  You want to get a divorce, but you have to stay with them for the kids.  Last week, I was very concerned that Trump was going to take any legislative stimulus and possibly the economy down with him, because he would become someone no one wanted anything to do [...]

Korean Tensions

As a Korean-American and someone who likes to think about game theory, I have some thoughts on the Korean situation.  We had the start of a crisis rally last week.  It’s always difficult to see how much panic is going to be priced into the market.  Putting my thoughts down on paper helps me organize my trade thoughts: There is “ZERO” chance that North Korea will launch a missile at the US (Guam) first. You may have noticed that I used three qualifiers.  The odds for something like a missile launch can never be truly zero.  So let’s call this [...]

Inconsistent Reflation?

It’s becoming clear that the markets want to price in some kind of libor widening ahead of the high-probability tapering coming in September.  This makes sense – as the Fed stops buying assets, you would expect that spreads should widen.  However, there are a few inconsistencies currently priced into the markets: Longer rates don’t seem to want to go higher. What happens if the Fed tapers and rates don’t rise?  Should we expect ED spreads to widen to FFs?  Right now, EDU7-H8 vs FF are the steepest they have been in a while.  Part of this is a high settle.  [...]

Rates Decision Point

Gundlach and Dalio were out last week saying that rates have more to climb.  I agree in the longer term (I think ten year yields are more likely to make new highs than new lows), but I’m not sure about direction in the short term.  Nothing in the past few weeks has really changed the “weakish US data and the Fed doesn’t have much to hike” narrative.  The only thing that happened was that some central bankers (especially Super Mario) sounded a little hawkish.  Sounded hawkish, but you know he’s going to act dovish for as long as he can.  [...]

Rates Blowout Potpurri

I haven’t been very active the past few weeks – mostly because I have been trying to make sense of how the markets could possibly be flattening when all things have been pointing to a massive steepening: (1) The Fed and ECB Pillars of long rates cracking as they get closer to tapers later this year, combined with (2) higher longer term rates causing equities to correct on a valuation basis.  One would think this double tightening of financial conditions would extend out the Fed’s “gradual” hiking approach.  We did get a reasonable steepening last week, but we are far [...]

The Micro View

BONUS: “Free” Straddle

From time to time, I'll post an occasional trade.  You'll need a reasonable cost structure to take advantage of this opportunity. On Friday I sent out the following trade: I saw EDZ7 98.625 call trade 1.5 and that seemed really cheap.  The premise of the trade is to get a "zero cost" straddle.  In fact, according to my numbers, I think you GET PAID for owning this straddle.  This would be to buy 100 EDZ7 98.625 call vs Sell 12 FFF8. I'll do the full write-up this weekend.  But basically, the EDZ7 call traded 10K times at 1.5.  FFF8 should [...]

ED-FF is Steep

I mentioned in client emails that I prefer taking Fed hiking views in FFs, and I wanted to explain a little more fully.  One of the things I have been doing more work on this year is looking at opportunities on the ED-FF curve.  We had a nice trade when we bought EDH8-U8 spread vs FFJ8-V8 spread at 1 and 0.5 and recently got out at 3bps. The ED1-ED5 vs FF spread curve has been wide relative to the past few months.  It’s possible it can widen more, with the recent Fed tapering which may cause spreads to widen as [...]

BONUS: Trade Thoughts

For the rest of this month, I'll reprint the Trade Thoughts section of the CA Newsletter.  There are seven parts to the Newsletter: (1) My take on the events of the previous week, (2) A summary of where I see value on the curve, (3) The Weekly Essay, which you can access on the web site or receive in the CA Digest, (4) Trade Thoughts, where I discuss a particular area related to trading (Fed pricing, ED-FF spread curve, interesting technicals, trade basics, or where I see some value in a trade), (5) The Flip Trade Update, where I discuss trades for jobbers, (6) The [...]

Fed Dot Surprises

I know the markets have been ignoring the Fed’s dots for some time now.  But as I always say, as the meetings get nearer, the Fed dots get more accurate.  For example, the day before a meeting, if you were to do this exercise and 12 of 16 members wanted a hike… they will be hiking.  I wanted to point out some of the more interesting features from the dots. The Core summary. I typically like taking out the high 6 and low 2 dots - just to weed out the riff-raff and see what the center of the group [...]

The Tapering Fed Meeting

One of the things about the “gradual and communicative” Fed is that they pretty much tell us most of the important things we need to know well in advance.  No one said anything about a hike (even the hawks) so the odds of a hike at the September meeting is basically “zero.”  They have also communicated for the past two meetings that tapering is coming, so the odds of the Fed not announcing the taper at this next meeting is also basically “zero.”  I suppose there could be some question about when tapering would start.  My “pick a date out [...]

Cute Chart – QE “Caused” Rates to Rise

A cute chart that has been going around is this idea that QE caused rates to INCREASE.  Therefore, tapering should cause rates to DECREASE.  <crickets>  As absurd as this sounded, I had to whip out the chart to take a look. Sure enough, after QE (and Operation Twist, denoted as “OT”), rates did increase soon thereafter.  But that would be an oversimplification.  To me, the main takeaway from the chart is that the markets are forward-looking and anticipatory – sometimes overly so. QE1 and the Taper Tantrum were two events that may have caught the markets off-guard. That is why [...]

Bearish Market Developments?

We are now in an environment where we have growth, but no inflation.  This is great for businesses and consumers.  This is not so great if you are a trader, as we could just sit around here, barring some catalyst.  But we get the big monthly data week next week and we are data-dependent.  While my central tendency is to think that we just sit here the rest of the summer, I am feeling better about finally taking some outlier tail views. We had two notable developments on the curve last week – interestingly at the very extremes of the [...]

Dovish Central Banks

Last week, the BOJ and ECB leaned dovish.  The Fed next week will probably complete the trifecta of Central Bankers leaning dovish.  What else can be expected when there are few signs of inflation?  And the growth data has not been great in the US, except for maybe employment.  The prospect of fiscal stimulus could have been a bonus, but that is looking less likely in the near future. I had suggested previously that Yellen was a "scientist" and that she would start to question a rise in inflation after an extended time with no empirical evidence of a raise.  [...]

Strange New World

We are now starting to see some things in the economy that we have never seen before: Last week, I mentioned some potentially widespread examples of wage declines in particular industries. I think in the past we may have had only a few industries here and there go through wage declines, so the overall wage picture was clearer in tight job markets.  But the advent of technology, globalization, price discovery and improved models of doing business have all contributed to downward pressure in wages (and even negative wage growth) in MANY industries.  So we have a heterogeneous wage picture in [...]

The Collapse of EDM7-FF Spread

The big story on the curve last week was the collapse of the ED-FF spread.  I had been saying for a while now (as recently as the last CA) that EDM7-FF seemed strangely high to the rest of the ED-FF curve.  That finally capitulated last week, with EDM7 rallying 7.5bps, while FFN7 only rallied 1.5bps.  I updated the chart from the Trade Thoughts section last week to show the dramatic changes in the ED-FF spreads in the past week.  You can see that EDM7-FF declined 6.3bps on the week.  Now EDM7-FF looks a little too low on the curve, but [...]

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