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  • Curve Advisor
    Keymaster
    Post count: 612
    #591 |

    So Bernanke not being able to refinance was pretty funny last week. But one thing this alludes to is that he thinks the rates are at a bottom. Yes – the FOMC has a pretty bad record at forecasting, but it is still worth noting.

  • Curve Advisor
    Keymaster
    Post count: 612

    It’s interesting that on relatively little volume, the M6 part of the curve seemed to be unusually offered today.

  • Curve Advisor
    Keymaster
    Post count: 612

    It is amazing we traded 5.2 million contracts yesterday and the OI only moved -15K. Lots of high frequency trading going on there.

  • Curve Advisor
    Keymaster
    Post count: 612

    We seem to be doing a lot of equity-watching. Surely, I can’t be the only one thinking equities seemed a little toppish, and that it would not be unreasonable for stocks to be lower?

  • Curve Advisor
    Keymaster
    Post count: 612

    Another reason I don’t trade the bond futures… USM5 jumped 10 points yesterday because the deliverable basket was changed by the CME. Ouch.

    There are people in the markets who think about this stuff all day. Unless you are willing to do the same, you are at a competitive disadvantage in a zero sum game.

  • Curve Advisor
    Keymaster
    Post count: 612

    The rest of the month feels like it is going to be reeeally slow.

    Is it just me, or do equities look like they are running on fumes?

  • euroflies
    Participant
    Post count: 6

    November hasn’t provided many opportunities to trade and I feel that December is going to be a much slower month. As I read elsewhere, “anyone w/profits on the year is looking to protect them and anyone without profits is looking to keep their job so neither will be putting on much risk.” I’ve been trading euros for a over a decade and for the first time am considering taking an entire month off (December) because the trade won’t be good.

  • Curve Advisor
    Keymaster
    Post count: 612

    There haven’t been many opportunities the past few weeks, but the CA is having a pretty good day today. Those singles add up over the course of a year. I think there is usually some position-squaring near year-end, so there may be some opportunity. And one of my brokers is getting his gamma signal for a 20+bp move in rates in the next 2.5 weeks. So I think there could be a little excitement soon.

    I suppose there could be year-end gamesmanship involved if one works at a firm. Depending on the magnitude of the year-end circumstances at the firm (desk having bad year, on cusp of minimum acceptable profit level, etc), one may want to reduce the size of their positioning or increase the threshhold for a trade one puts on. But the more positive expected value one’s trading style is, the more it pays to keep on plugging away (unless there are no bonuses). To use a baseball analogy, I am generally of the opinion that you never give away an at-bat. Because if one gives up 1/6 of the year when: a) markets are slow, b) markets are too volatile, c) having a good year, d) having a bad year and looking to keep one’s job… one will basically only be trading 10 months a year, and leaving a lot of money on the table in a career. Look to retire earlier. 🙂

  • Curve Advisor
    Keymaster
    Post count: 612

    I can’t believe tens only sold off 6bps off a 2.26 level. If you had told me a year ago that we could have gotten this kind of data the past 12 months and tens would be at 2.32, I would have thought this was not possible.

  • Curve Advisor
    Keymaster
    Post count: 612

    I am quite surprised the LMCI came out so low after that monster Employment report. So I am beginning to think it was all seasonals. And while hourly earings increased 0.4, apparently, the yoy was rather muted. That was still a very constructive report, but I’m thinking unless the FOMC removes “considerable”, the reds are probably going back to its old trading range.

  • Curve Advisor
    Keymaster
    Post count: 612

    FYI, a few people mentioned the Hilsenrath article on the Fed’s November paper on optimal control. The “Fed Simulations Call for Rate Hikes Soon” headline is very misleading. They have been publishing optimal control papers for a few years showing varying results. This particular paper was published November 21, 2014, so it’s a little strange Hilsenrath decided to write about it now. Also, the conclusion is basically a massive disclaimer, with the final sentence being, “Thus, OC paths should be treated with appropriate caution as a guide to actual policy.”

    Things at the WSJ must be slow to have to resort to sensationalism.

  • highburyfields
    Participant
    Post count: 3

    For me it boils down to what you think ‘reasonable’ means in probability space. Both Dudley, Fischer and Williams (and Yellen I’m guessing) keep pointing to mid2015 being ‘reasonable’ (presumably June given the press conference).

    I use the FFF5FFFN5 (Cal sprd) = 18bp as guide (takes out the level effect of the RRP/IOER)

    Adj this by around 3bp for RRP term prem = 15bp roughly cumulative 60% into June meeting. Don’t forget March hike is 10% min at least up till the Dec meeting.

    The problem for the strip is that conditional on the first hike the next say three hikes at least become highly likely (+80% next etc) and one hike per meeting cannot be ruled out. A simple prob tree will demonstrate this becomes explosive.

  • Curve Advisor
    Keymaster
    Post count: 612

    I had discussed “reasonable” a while back and thought it could be pretty wide, because Dudley had previously used the word “reasonable” when discussing outcomes within 100bps of SEP dots. But it’s just speculation.

    Just curious why you are subtracting 3bps for “RRP term premium”? Over the years, I’ve found that people use various estimations for Fed moves, but I’ve never heard of that one before.

    It’s really not clear to me what trajectory the markets are trying to price in. The year spreads have had a really hard time staying above 100-110. And while a few years ago I assumed 25bps per meeting would be the mode (once they start hiking), ever since the BOE came out with their once a quarter “pledge”, it’s not clear if the cross markets traders are trying to price in something similar or a hybrid.

  • Curve Advisor
    Keymaster
    Post count: 612

    For over a week now, the markets have felt like there is some kind of crisis brewing. Either that, or someone really loves squeezing the shorts (with an assist from the central banks).

  • Curve Advisor
    Keymaster
    Post count: 612

    This is a very interesting time for historicals. One of the things I always say is that you need to understand when historicals will give a misleading view of the markets. This may be one of those times. The golds are near one year highs (on a closing basis) and the fronts are near one year lows. And this trend keeps going. I think the bears are comfortable on the front of the curve and the bulls are comfortable on the back of the curve going into the FOMC. So we should get more clarity on Wednesday.

  • Curve Advisor
    Keymaster
    Post count: 612

    I’m on the fence about Zerohedge (some of their writers are so idiotic, and my wife always walks by my office when the “China Love” ads come on), but I found this link to the 1992 GBP intervention interesting (it’s a 50 minute documentary). This was before my time, and while I technically worked in the FX group, I did very little FX trading. I knew the main bullet of what happened, but didn’t really know the details. The part where the UK jacked up rates to “show strength” and blew up in their faces reminds me of what happened to Russia today.

    http://www.zerohedge.com/news/2014-12-15/lesson-todays-currency-crises-black-wednesday-1992-when-intervention-failed

  • Curve Advisor
    Keymaster
    Post count: 612

    As I am reading the explanations this morning as to why equities are up, the consensus among journalists is that it’s because the FOMC is “patient”. Umm… yes, they did use that word. But if they just took a look at the interest rate markets, they would have seen that more hikes were being priced in, which according to their logic would be bad for equities. And this is why I hate trading products that eventually do not converge to anything… at least with rates, they eventually converge to some function of central bank rates.

  • Curve Advisor
    Keymaster
    Post count: 612

    In the past, the markets had generally moved back hikes whenever we rallied, but this time around, we seem to be reducing the amount they will hike (taking the 2015 hike as a given). I suppose the change in stance by the FOMC at their last meeting is the reason, but as Mike Tyson used to say, “Everybody has a plan until they get punched in the mouth.” So it’ll be interesting to see if the FOMC veers off their “mid-2105” commentary.

  • Curve Advisor
    Keymaster
    Post count: 612

    Bunds are 14bps. I can’t imagine lending someone money for 10 years and expecting to earn 14 cents of interest per year on $100. It must be terrible being a traditional long fixed income investment manager – trying to collect a fee investing people’s money and staring at 14bps. Because most reasonable investors aren’t going to pay someone 1% to manage their money when the benchmark is 14bps. I was talking to someone at a party, and it is very difficult finding good value traditional investments in equities or fixed income. Most investments look rich. While I am glad I focus on relative value, even that gets pinched when the yield curves get very flat – there just isn’t as much shape to work with.

    So then it got me to thinking…
    One of the ways you can think about the yield curve is as a function of Fed probabilities at various points in time. So perhaps with the grab for yield that is going on in the markets, all of the Fed probabilities in the curve are understated. That is, if the “true” odds of a September hike is 50%, the markets may only be pricing in 40% because of they yield grab. Is there a way to capitalize without getting suffering from negative rolldown? I’m going to mull this over some more, and it may become something I write about in a future issue of the CA.

  • Curve Advisor
    Keymaster
    Post count: 612

    While I was away on my long vacation, I got a few general questions from a few readers on recent market developments. I thought I would resurrect this ancient thread, rather than create a new one.

    QUESTION 1 – TAPERING) I have been following your work for some time now and have gained immensely from it. I wanted to ask about the reinvestment taper. Will this make the D fly steep or flat if 30 yr yields rally from here? because the current price movement is showing ED19-20 spreads offer and 20-21,21-22 spreads still a bit steep.

    Answer: I’m glad you like the CA. A few people (including Bill Gross) have estimated that a taper would put in about 30-35bps of term premium back in the long end of the curve. It’s not clear to what amount is currently priced in, and it’s also not clear whether the markets will react sooner or later (since the full taper will take 5 quarters – presumably through the end of 2108). All other things being equal, I would expect the flies to be higher on the longer end of the curve by the time the full tapering goes into effect. But between now and the end of 2018, we could get some (shorter term) relative buying pressure in the belly, since the BOJ is still pegging the ten year sector, and some algos and ETFs may also be buying.

    As for those particular three month spreads you mentioned, my preference when trading that far out is to trade wider spreads (like a year spread), that may get more volatility. Don’t forget to adjust EDZ2 for the year-end turn. It has been a little unusual that the some of the flies near that part of the curve have been below zero. This is not what you would expect going into a reflationary tapering event. I’m actually planning to write about market expectations of the taper this weekend (barring some other more urgent event), so watch for that on the web site in two weeks.

  • Curve Advisor
    Keymaster
    Post count: 612

    QUESTION 2 – DEBT CEILING) Regarding the explanation of oct nov spread- Debt ceiling is coming up. When the last debt ceiling drama played, fed fund fixing rose at one instance).

    I haven’t really looked at this historically, because there could have been some other extraneous factors at play back then. Also keep in mind that the Fed has changed the methodology for how the FFER is calculated earlier this year, which made the fixings much stickier (the FFER rarely changes except for month-ends). Also, a default is a very low probability scenario – even McConnell said yesterday there was “zero chance — no chance” Congress would fail to raise the debt ceiling by late September. The odds are obviously non-zero, but all things considered, in terms of expected value, I’m not sure there is a positive expected value play here.

  • Curve Advisor
    Keymaster
    Post count: 612

    QUESTION 3 – LIBOR TRANSITION) I stumbled across your website recently and found it very informative. I myself am a STIR trader mainly trading Euribor. What are your thoughts on the lack of volatility in STIRS relative to past years and what do you think will happen to eurodollar when regulators transition away from libor? Do you think it will still be the most liquids contract in the world? Also, the IMM seat price on cme has dropped significantly from its highs the past few years do you think that is the new normal?

    The lack of volatility in STIRs just follows the lack of volatility in other interest rate markets and even equity markets. Volatility for fixed income products are also a function of the level of rates. When interest rates are near the zero bound, you generally don’t expect it to move as much as when rates are higher (since there is more possible outcomes). Also, it doesn’t help Euribor that Draghi tends to be dovish. It doesn’t help Eurodollars that the Fed has been “gradual.” And the BOJ sitting on a 10bp wide band in JGBs is just crushing global rates volatility. Finally, the advent of algos and ETFs also puts some downward pressure on volatility.

    I think the transition away from libor will cause Eurodollar future trading volumes to decline. However, the CME will have a new futures product to replace it (based on the new reference rate). Since I do not see the need for swaps hedging and rates speculation to decline, I think between the fading Eurodollar product and the new reference product, the combined trading volumes should stay elevated. It may even increase if this adds to more cross-market trading.

    I know nothing about IMM seat pricing. I’m guessing the numbers of locals and brokers that have gone out of business over time may be causing some downward pressure in pricing. But again, I know nothing about this.

  • euroflies
    Participant
    Post count: 6

    I’ll chime in on the IMM seats as a longtime member who has always tracked the seat market closely. The main reason why seats continue to decline is that there are really no new independent speculators because anyone new coming into the industry starts at a proprietary trading firm and tends to stay there or move to another rather than go independent. The only demand which seats have gotten is when new firms or funds need to buy a couple in each division to qualify as clearing members.

    The fee and margin breaks easily justify the cost for anyone actively trading eurodollars but there just aren’t enough new players to see much upside for the seats.

  • Oliver
    Participant
    Post count: 5

    Hi CA,

    I had a question about using ED’s as a proxy for trading the US yield curve and hope this is the right place for it.

    I read an interesting blog which discussed potential steepner trades on the 2s10s and 5s30s as the yield curve continued to flatten. The trader was looking to hold this for some time as a macro play and another trader asked why he didn’t just trade the ED Z8Z9 or Z9Z0 instead. The OP seemed to like this idea.

    This lead me to wonder if the ED works as a good proxy to the US yield curve but without the need to roll each quarter like you would with treasuries. I had 2 concerns with such a trade though:

    1) Wouldn’t treasuries offer more security than EDs in a financial shock/crisis – leading to unexpected behaviour in the ED spreads which could negate the trade and our idea completely?

    2) If the idea is to trade the yield curve between the short and long ends, why would 12m EDs be a good proxy? Wouldn’t you trade EDZ9 vs EDZ7(2027 code?) as a 2s10s proxy?

    Thanks in advance.

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