Sept 10. Higher wages, higher rates (over the short term)

–Solid payroll data and strong wage growth sparked a surge in yields.  NFP 201k and yoy wages +2.9%.  Ten year yield rose 6.4 bps to 294.1.  Shorter maturities hit their highest levels in a decade with the two year note, for example, closing +6.6 bps to 270.3.  Similarly, the one-year bill rose to just over 2.5%.
–Near euro$ calendar spreads made new highs as odds for continued hikes increased.  EDU8/EDU9 closed at a new high of 64.25.  Of course, EDU8 expires in one week, so this spread is now more dependent on the level of EDU9 which closed at exactly 97.00 or 3%.  The September FOMC is fully priced, so a spread of 64.25 is roughly forecasting 2.5 more hikes over the next year.  EDZ8/EDZ9 also posted a new recent high of 39.5.  However, further deferred spreads remain inverted, with EDZ19/EDZ20 at -0.5.  Red/gold euro$ pack spread also closed -0.5, down 1.375 on the day.
–Despite the strong data, volume wasn’t particularly high and implied volatility remains pegged to the lower end of an already depressed range.  For example, week to week changes: 0EZ 9700^ 26.5 to 24.0.  0EH 9700^ 38.5 to 36.5.  Similar losses in greens and blues.  While price action is bearish, other factors aren’t offering corroborating evidence.  However, auctions this week of 3′, 10’s and 30’s should cap the upside, at least in the early part of the week.
–Stocks are firmer this morning, following europe, not China, where the Shanghai Composite continues to press new lows.
–Bostic (who previously said he won’t vote for anything that knowingly inverts the curve) is set to speak this morning.  Consumer Credit at the end of the day.
Posted on September 10, 2018 at 5:09 am by alexmanzara · Permalink · Leave a comment
In: Eurodollar Options

Sept 9. Lehman’s Shadows

The two year note closed at a new high this week of 2.703%.  The last time it was this high was just over ten years ago in July 2008 (in June 2007 the yield was 5.08%).

We’re rapidly approaching the 10-year Anniversary of the 2008 financial crisis. Exactly one decade ago to the day (September 7, 2008), Fannie Mae and Freddie Mac were placed into government receivership. And for at least a decade, there has been nothing more than talk of reforming the government-sponsored-enterprises. Credit Bubble Bulletin, Doug Noland

Global debt as a % of the world’s GDP was 286% when we were watching pictures of Lehman employees carrying out their boxes.  Today it’s 318%.  David Ader

Lehman Brothers filed for Chapter 11 bankruptcy on September 15, 2008.  And of course, this week is the 17th anniversary of the 9/11 attack.

In late 2008 the gold/silver ratio exploded from around 53 to 84 as the financial crisis cascaded.  By late 2010 it was falling back hard, and in 2011 reached a bottom in the low 30’s.  On Friday the gold/silver ratio closed at 84.4, equaling the peak set during the crisis.

By most measures, the US economy is doing quite well.  Friday’s employment report is another piece of evidence that the labor market is robust, with yoy wage gains accelerating to 2.9%. Manufacturing ISM was the strongest since 2004 and Service ISM was solid as well.  At least five Fed officials last week said that continued gradual rate hikes continue to be warranted.  Tim Duy sums it up this way: “Bottom line: Fed still hasn’t found a reason to pause.  The US data isn’t really giving one.  And don’t expect emerging market turmoil to factor much into the Fed’s decisions – until the problem threatens to wash up on US shores, it will fall into the general category of ‘risks we talk about but don’t act on.’”  Why would a stress measure like gold/silver be all the way back at crisis level highs if the future is so bright?

We all know that the Great Financial Crisis was brought on by extreme mortgage debt encouraged by lax lending standards and supported by exotic sliced and diced financing vehicles with inflated ratings that were pedaled to the global investment community. The Fed’s tightening cycle from 2004 to 2006 eventually caught up to slimly capitalized adjustable rate mortgages

So let’s look at outstanding debt levels from the Fed’s Z.1 report.  At the end of 2008, Household mortgage debt was $10.608 trillion.  As of Q1 2018, it’s $10.144 T.  It has DECLINED!!  As a result, homeowner’s equity as a percentage of household real estate is back to pre-crisis levels of 60% as low rates have helped to expand home values. That’s good.  Consumer credit in 2008 was $2.644T vs $3.873T now, an increase of $1.524T.  Nearly $1T of that increase is in student debt.  So, aside from student debt, the Household sector is in good shape, corroborated by the HH Financial Obligation Ratio (link at bottom) which has been stable for the last several years, now at 15.75%.  In Q4 2007 it peaked at 18.14%.

Corporate debt has expanded from $6.57T in 2008 to a record $9.057T now, a pretty big increase considering that capex has been weak; obviously share buybacks have been part of the reason for growth.   The change in state and local government debt has been tame, moving from $2.978T to $3.065T, an increase of only 3% in ten years!  However, FEDERAL Govt debt has exploded from $7.377T to $17.085T.  Federal gov’t current tax receipts have gone from a peak level in 2007 of $1.6T annually to just over $2.0T annually in 2017.  It doesn’t take a genius to see that private debts have been shuffled to the balance sheet of the federal gov’t, and that tax receipts are becoming a smaller percentage of the outstanding debt.  In a way, the HH sector has been the most financially savvy and conservative since the crisis.  It’s no secret that investment grade corporate debt is now bunching up at the lower tiers just above junk.  When analysts talk about an economic “sugar high” that has been juiced by the government, even a simple review of the data above makes the case.  Can growth dig us out?  That is, of course, the hope.

But the above domestic debt review also makes several things pretty clear.  First, the next crisis, if and when it comes, isn’t going to be a result of the HH sector.  Second, it’s obvious that the Fed and the administration are on a collision course if the Fed keeps hiking.  Third, if the markets become less hospitable to US debt, then Houston, we have a problem.

The Fed’s goal of 2% inflation to support normalization efforts runs squarely into the Federal budget, which is anything but normal.  So, as data like Friday’s annualized wage growth of 2.9% is released (which bolsters the Fed’s case for continued gradual rate hikes) the curve is under flattening pressure.  In Eurodollars, the red pack to green pack (2nd year forward to 3rd year forward) has traded a couple of basis points on either side of zero since June.  When the September’18 contract expires next week, the red pack will begin with the December’19 contract and the green pack will start with December’20.  That ‘new’ pack spread settled -2.5 bps on Friday.  The point is that the Eurodollar curve currently forecasts a slowdown next year, buying into the ‘sugar-high’ scenario.

In the old days it wasn’t uncommon to hear terms like “crowding out” which referred to voracious Federal Gov’t borrowing needs pushing private sector borrowers to the back of the line.  Recently, it seems as if federal debt offerings are effortlessly absorbed regardless of size.  This week brings auctions of 3’s 10’s and 30’s, that are raising $49 billion in new cash.  The strength of the US dollar, which tends to depress commodities, is perhaps seen as deflationary, supporting a bid for long dated treasuries.  But at some point sheer supply may become an issue.  Last week the NY Fed chief Williams said that long yields were depressed, in part, because of the Fed’s buying.  That dynamic could also work in reverse.

In the years leading up to the GFC, lending standards and regulations were relaxed; there was simply too much debt without enough equity cushion.  For emerging market economies that have borrowed in dollars, the ‘equity cushion’ is in the form of domestic currency vs the USD.  That cushion is evaporating.  Is the gold/silver ratio telegraphing the problem?  The chart below seems to reflect growing concern.  In the early days of the GFC, subprime concerns were shrugged off.  The same is occurring now with emerging markets.

Chart of Gold/silver ratio in white, vs JPM EMFX index.


Posted on September 9, 2018 at 7:00 am by alexmanzara · Permalink · Leave a comment
In: Eurodollar Options

Sept 7. Payrolls – focus on wages

–Employment report this morning with NFP expected 193k, rate of 3.8% and yoy average hourly earnings +2.7%.  From the NY Fed’s Williams yesterday (BBG): “The fact that wages haven’t grown a lot faster is a sign that this economy still has room to run,” he said, adding that as a result, “we don’t feel the need to raise interest rates more quickly than otherwise.”  Another article noted that Williams appears to have shifted to a slightly more dovish stance, downplaying inflation concerns in his comments.  Little reaction in the market though 5/30 treasury spread edged to a slight new high at 30.7 bps.  Overall, yields fell 2-3 bps yesterday with tens -2.3 to  287.7.

–Big tech as represented by the NYFang index is coming under increasing pressure, posting a low of 2723 yesterday.  Previous lows of 2707 (July 31) and 2731 (Aug 20) make this area appear technically important.
–It was in February that China took over the Anbang group, and chatter of funding stress related to another acquisition-happy conglomerate, HNA, was rampant.  HNA Group is now set to shed its stake in Deutsche Bank under pressure from Beijing.  HNA is the largest shareholder of DB.  In the beginning of the year DB was around 15-16 EUR, now just under 10 with a low of 8.75 set in June.  Just a reminder that China continues to address domestic financial risks (which have perhaps been accentuated due to the weaker yuan) while Europe contends with weak banking stocks.
–I saw a survey from BMO that suggests a slightly bullish tilt to this morning’s employment data, but it’s worth noting that next week’s 3/10/30 year auctions are set to raise $49 billion in new cash.  Supply hasn’t proven to much of an issue for the market, but will likely cap the upside over the short term.
Posted on September 7, 2018 at 5:17 am by alexmanzara · Permalink · Leave a comment
In: Eurodollar Options

Sept 6. Domestic data isn’t much of a catalyst

-Little change in US rates yesterday in spite of equity market sector rebalancing. Curve edged very slightly steeper. NY Fang index was down 2.7% yesterday and Nasdaq -1.19%, but outside of tech, damage was minimal with DJIA closing higher on the day. Employment report tomorrow, but that data, which used to be the big report of the month, is now little more than a footnote. We know the labor market is strong. Policy is caught between a solid domestic economy and increasing fissures internationally, which may or may not splinter into the US, and I mean that both in terms of Fed policy and the administration’s in general. Markets don’t seem to care: Eurodollar premium was hammered yesterday. Heavy selling in Oct 9737^ at 6.5 (settled there with new open int of 25k). 0EZ 9725c were sold at 5.0 to 5.5 in size of 50k which were new sales (settled 5.25 vs 9702.5). One week ago Monday (Aug 27), EDZ 9737 straddle was 14.5 vs 12.0 settle yesterday. 0EZ 9700 straddle went from 26.5 to 24.5. At the end of May market turmoil was associated with Italy and the euro. Yesterday, Fitch downgraded several Italian banks without any impact on stocks or debt. Perhaps the gold/silver ratio at a new high of 84.3 (matching the 2008 high of 84.4) is a sign of international stress, but bitcoin has been crushed the last two sessions. In any case, India rupee made a new low for the year, as did Hang Seng.
–News today includes ADP expected 200k, ISM Services expected 56.8, Factory Orders -0.6 and Durables -1.7. There will likely be more political drama with the NY Times op-ed from an anonymous WH staffer bashing Trump. I’d wager that the source will be revealed before midterm elections and will probably solidify Trump’s support.

Posted on September 6, 2018 at 5:23 am by alexmanzara · Permalink · Leave a comment
In: Eurodollar Options

Sept 5. US manufacturing surge as EM falters

–US yields rose yesterday as ISM Manufacturing came out at a blistering 61.3. There has only been one other reading higher this century, 61.4 in May 2004. Increased IG issuance also cited for pressure on FI. Ten year yield up 5.1 bps from Friday’s close, to 290.2. New buyer of 25k FVV 113.25p for 15.5/16.0; settled 16.5 vs 113-065, likely related to a corporate hedge. Continued buying in EDZ8 9750/9762c 1×2 for 1.0 bp; looking for a Fed pause in December due to EM rout.
–Emerging markets continue to wobble with S Africa’s rand plunging to a new low this morning. India rupee also at new low. Heavy losses yesterday in metals. Copper was crushed, testing the low from August. Silver was especially weak, SIZ was down nearly 38 cents yesterday and is off nearly 20% from the high in June. As shown on the chart below both beans and silver are back to the energy induced lows at the end of 2015/start of 2016. Gold/silver ratio is back to the high set in 2008, according to BBG.
–This morning stocks are weaker, as is WTI which failed an early morning rally yesterday right at the high of the range. As the threat of storm Gordon recedes, CLV is down another $1; interest rate futures are attempting to claw back yesterday’s losses. News today includes Balance of Trade.


Posted on September 5, 2018 at 5:16 am by alexmanzara · Permalink · Leave a comment
In: Eurodollar Options

Sept 2, 2018. Hunger Stones


In the current conditions, more than a dozen of the hunger stones can now be seen around Děčín, recording the low water levels of years and centuries long ago — “chiselled with the years of hardship and the initials of authors lost to history,” as described by the authors of a 2013 study on historic Czech droughts.

The oldest and most famous of these landmarks, known simply as “Hunger Rock” according to Děčín’s tourist guide, contains an inscription that dates back to 1616, which reads: “Wenn du mich siehst, dann weine” (If you see me, weep).

There were several articles in the past week about Hunger Stones, revealed in the Elbe River due to low water levels related to drought conditions.  The stone pictured above “…expressed that drought had brought a bad harvest, lack of food, high prices and hunger for poor people.”  A relic of an ancient time.  Now it’s a tourist draw.  The message however, cuts to the core for humanity, a signal of profound suffering and helplessness.  All that’s left is the crying.

Another ancient relic is gold.  A curiosity of a different era.  The framework of modern western civilization is founded on electronic impulses, communication, and constantly adapting supply chains.   The capitalist system adjusts for scarcity by price, incentivizing new supply or alternative products at relatively cheaper prices, thus filling the void.  Hunger?  Amazon will deliver today from Whole Foods.  We have governments to smooth out the rough spots.  For example, I remarked to a friend from trading floor days about the vicious decline in the price of soybeans from the early part of June.  He is from an agricultural heritage and told me the crop will be huge, but also sent me the USDA’s press release. ‘Details of Assistance for Farmers Impacted by Unjustified Retaliation’.   This program starts on Tuesday, September 4, and provides cash adjustments to farmers: $1.65/bushel for beans, $8.00/head for hogs, $0.14 bushel for wheat, etc.

Getting back to the price of gold, it has ranged from about $1140 to $1340/oz and is now near the lower end of that range.  It’s pretty much been sideways action since 2013.  Fairly low on drama.  However, consider the chart below:

That’s the chart of gold in terms of the Argentinian peso.  It makes for a much more compelling story when viewed by a guy in Buenos Aires, through the lens of economic mismanagement.  Obviously, Argentina is a unique case.  As is Brazil.  As is Turkey.  Etc.  For a broader perspective, the chart below is more appropriate:

That’s the price of gold in terms of the Illinois dollar, or rather in terms of the JPM EMFX index.  Not quite as meteoric of a rise.  But the ancient relic still might save a few tears.

I know it’s a poor, modern analogy to compare the omens on hunger stones to the US yield curve.  Using a chisel and a hammer on stone during famine isn’t quite the same as typing out a few inane lines on twitter.  However, we’re getting a lot of warnings about yield curve inversion and its implications for forward economic growth.  For example, Barrons this week has a piece titled ‘Will the flattening yield curve lead to recession?’  This essay notes “If the FF rate exceeds the two-year note rate, banks begin to tighten credit standards…[then] a recession ensues.”  It continues, “Unlike other yield curve measures, the spread between the FF rate and the 2-yr note actually has been widening since last summer.”

So the Fed effective, now at 1.92%, and the 2-yr note, now at 2.63%, are at a spread of 71 bps.  However, this spread will narrow significantly with the Fed’s expected hike on 26-Sept.  That’s likely to be the same case with the spread between the 3-month t-bill rate and the ten year, the curve measure favored by the SF Fed.   On the Eurodollar curve, the spread between reds (the second year forward) and greens (third year forward) has been negative for the past 16 sessions, and hasn’t been above +2 bps since the summer solstice.  The Eurodollar curve is unmistakably sending the message that growth is going to slow; that fiscal measures related to the tax cuts are going to wane in their effect on the economy.  The question is whether the message is correct.  Currently it appears as if a lot of supply chains are at risk of being disrupted.  Tightening of dollar rates is causing tears for countries that have recklessly borrowed in dollars.  The pain has spread to some areas of the global banking system.

Dollar denominated assets have provided refuge.  In some cases etf’s and other index products have masked relative weakness and vulnerabilities. However, risks are growing even in the US, especially in light of absolute levels of buoyancy. The curve reflects those forward risks.  When 2’s/10’s goes negative, weep?  No.  Weeping is for the depths of despair.  But lighten up on big tech.

This week brings ISM manufacturing (Tuesday) and Services (Thursday).  The employment report is Friday, with non-farm payrolls expected 190k.  As mentioned last week, the NFP report in September of last year was a large miss, coming in at only 156k.  In the ensuing week, the ten year yield traded to 2.06%.  By May of this year, the yield had surged over 100 bps to 3.09%.  Now we’re 2.85%.  Strong data this week would likely see only a limited increase in yields, while weak data has open space to the downside, especially if 2.78% doesn’t hold.

Posted on September 2, 2018 at 12:28 pm by alexmanzara · Permalink · Leave a comment
In: Eurodollar Options

August 31. Change of season

–Yields eased Thursday as emerging market stress intensified with a new plunge in the Argentinian peso.  Ten year yield fell 2.3 bps to 285.9.  Red through blue Eurodollars all +3 on the day.  Volume was light.  Late in the day Trump threatened additional tariffs on China, triggering an immediate offer in stock index futures, but losses were fairly well contained.  PCE Core yoy prices were at 2.0%, right on target.

–This morning Chicago PMI is released, expected 63.0 from 65.5.  University of Mich Sentiment and Inflation expectations also out.

–Activity was light in front of the holiday weekend.  As an interesting(?) side note, last year Labor day was on Sept 4.  The employment report was Sept 1, and showed a gain of 156k in NFP. Vs expected 180k  TY settled 126-305 on the day.  The yield was 2.17%.  This is when tensions with N Korea were at a fever pitch.  The following Friday on Sept 8, the contract put in its high at 128-035 (ten year yield 2.06%) and hasn’t been close since.  Pivotal time of year?  ES1 was 2450 and is now 2900, about 18% higher even as the ten year yield is up 80 bps.  The holiday weekend and change of season can presage a shift in market sentiment as well (more likely in stocks this time than in treasuries).  Rolling crises in EM provide a backdrop of instability, and weakness in banking stocks and interest rate spreads relating to Italy add to the mix.   On top of that are lingering legal challenges facing Trump.

–Enjoy the holiday weekend.  Employment report next Friday.
Posted on August 31, 2018 at 5:10 am by alexmanzara · Permalink · Leave a comment
In: Eurodollar Options

Aug 30. Core PCE, the Fed’s preferred inflation measure, vs EM

–Rates barely changed as stocks powered to new highs on Wednesday and the treasury wrapped up the 7 year auction.  Tens unch’d at 288.2. The curve flattened somewhat as it tends to do at the end of the month.  5/30 spread closed at 24.0, a new monthly low.  Red/gold pack spread also eked out a new low, at just under -1 bp.  Though there is little sign of stress on US markets, the Argentinian peso was crushed, and Indian rupee also made a new low, with weakness across other currencies as well (continuing this morning).  It’s worth looking at 5y CDS, with   Argentina exploding to 655 at the end of the day.  Brazil at 295 bps, Italy 256 and Turkey 504.  Italy btp to  bund spread ended the day at 272 bps.
–Put selling prevalent in eurodollars, for example, EDZ9 9675/9775 rr cov 9699, ppr sell 30k at 7.5, sold put on exit.  Another 35k EDV8 9737.5p sold at 4.5 to 4.75 (Oct expiry on EDZ8), new position.  EDZ8  9737^ settled at the blue light special of just 13.5 bps.
–Oil has had a good bounce off the recent low, with CLV closing yesterday +98 at 6951, near the upper end of the range since May.  However, copper and EM stuff looks like the rally has run out of steam.  This morning, CNY weaker, Shanghai Comp -1.1%, Russian ruble and Turkish lira both down, with brand new lows in India rupee and Indonesia rupiah.  There’s been early profit taking in US stocks.
–US domestic news is perhaps fading in importance, but today we get Jobless Claims and Personal Income and Spending, expected +0.3 and +0.4.  PCE prices yoy expected 2.2% with the Core measure right at the Fed’s target, +2.0%.
Posted on August 30, 2018 at 5:14 am by alexmanzara · Permalink · Leave a comment
In: Eurodollar Options

Aug 29. EM FX… increasing risk

–Yields rose yesterday with tens up 3.6 bps to 288.2.  Consumer Confidence hit a new 18 year high at 133.4.  Stocks remain buoyant, grains. not so much.  Nov Soybeans made a new low settlement at 833 1/4, down 15 cents on the day and down over 20% from the high in May.  A huge crop and the China trade situation are to blame; Dec Corn also testing July’s lows.

–While heavy focus is on China’s yuan, the Turkish lira is again weaker this morning as is the Russian Ruble.  Indian rupee and Indonesian rupiah at new lows for the move today (remember, these are the two countries where central bank heads called on the Fed to stop the taper because of a dollar shortage).  The Brazilian real and Argentinian peso made new lows yesterday.  DXY slightly firmer today.

–Vols firmed in rates yesterday with higher yields.  Today brings the final leg of the auctions with the 7 year (the market often rallies out of the third auction).  Economic news includes the 2nd estimate of Q2 GDP, expected 4.0%.  New high yesterday in EDU8/EDZ8 at 27.25 with just under three weeks to go for September expiry.  EDZ8/EDH9 is 15.5, right at its high, with the latter being a good sale IF one thinks December could be the last hike.

Posted on August 29, 2018 at 5:16 am by alexmanzara · Permalink · Leave a comment
In: Eurodollar Options

Aug 28. Consumer Confidence and stocks

Below is a chart with Consumer Confidence (in white, new high today at 133.4) and SPX (in amber, also new high). Obviously since 2008 these two are joined at the hip.
High consumer confidence is usually associated with propensity to spend by economists, and so is thought to be supportive of consumption. But confidence is locked to stock values as well, which suggests a “wealth effect” relating to consumption. Powell has tried to separate the idea of Wall Street and Main Street…. The economy is NOT the stock market. But this chart is fairly compelling evidence that the business of America is finance.
The lower chart shows the same two series over a different time frame, from 1991 to 2005. It was in the late 1990’s when Greenspan’s Fed was most concerned with the wealth effect as it related to Household Spending.

Posted on August 29, 2018 at 4:48 am by alexmanzara · Permalink · Leave a comment
In: Eurodollar Options