Rates unch’d; new high beans

Sept 18, 2020

 –Just be a few snippets to end the week.   Not much of a theme in rates; little movement or net change.  Tens unch’d at 68.2 bps.  In dollars there was some noticeable buying of 100 calls at 0.75.  Settled 1.0 on volume 75k vs  9980, but open interest was only up 5600.  Yesterday’s 3m libor setting was 0.22738, just above the all-time low on May 1, 2014 of 0.22285.  No agreement on fiscal package, near record low libor, BOE: buy zero strike calls.

–Today is quad witching.  Yesterday ESZ0 held the 9/9 and 9/11 lows, while NQZ0 broke the 10924 double bottom and squeezed out a low of 10904.25 before squeezing out shorts and ending with a loss of only 179.75 at 11075.25.
–BOE meeting resulted in a settlement of 100.09 in red Dec (L Z1), the highest ever settle in short sterling.  Dec’20/Dec’21 settled at a new low of -14.5  The bank is considering a policy move to negative rates, which is beginning to be priced in futures.

–Soybeans (S X0) closed at a new high for the year 1028 31/4… up 16% in a month, said due to Chinese demand.  The chart looks like the stock of a vaccine wonder drug.  Straight up.

–Attached is a chart of 3 month FV vol…new low at 1.4%.  So yes, the market believes the Fed.  NOTHING is going to HAPPEN.  But it’s sort of instructive to look back at a long term chart like this.  See the previous low in 2013 around this level?  That was right before the May 2013 taper tantrum.  Not that there’s anything on the horizon like that…but when the market is beaten down into complacency the awakening gets ugly.

Gamma warning

Sept 17. 2020

–Markets not overly enthused with the FOMC meeting yesterday.  Tens closed slightly higher in yield at 68.5 bps.  Eurodollar curve was more or less unch’d out to blues.  Fed holding rates low until inflation exceeds 2% for some time.  Eurodollar options believe it…most back straddles lost 1.5 to 2.5 bps, which doesn’t sound like much, but percentage declines at these levels are high.  For example, on Tuesday EDH’22 9975^ settled 21.5, and yesterday 20.5.  EDH’23 settled 43.0 on Tuesday and 40.5 yesterday.  Without more commitment to QE than continuing at the current pace, some saw the meeting’s outcome as less dovish than expected.  In any event, stocks slid into the end of the day and are lower this morning with quadruple witching tomorrow.  

–In yesterday’s note I expressed some surprise at strength in near ED contracts.  The reason was revealed in the morning as CS’s Zoltan Poszar reversed his stance and said that year-end funding pressure is likely to be muted, as capital constraints on GSIB’s were less than expected.  FFF1 to EDZ0, which is a proxy for FRA/OIS fell 1.5 bps to 21.0 matching the low from Aug 6.  The intervening high has only been 25.  This change in sentiment opened the door to selling of EDZ premium, with at least 25k EDZ0 9975 straddle sold at 7.0 (settled there vs 9972.5 with 88 dte).  

–Today and tomorrow may be more about positioning than anything else.  Stock futures have traded lower this morning, but have held important lows from Sept 9 and Sept 11.  In SPZ those lows are 3286 and 3298 and in NQZ it’s more of a double bottom, 10925 and 10924.  AAPL was weak yesterday closing at 112.13; its critical low was 110 on Friday.  If these levels break to the downside, then expect possible violent gamma-driven follow-thru.  Press reports about Softbank have heightened awareness of this issue, at the same time that liquidity has become noticeably absent.   

–News includes Jobless Claims expected 850k.  Housing Starts.  Philly Fed expected 15.0 from 17.2 last. 

With fingernails that shine like justice

September 16, 2020

I want a stock with a smooth liquidation
I want a stock with good dividends
At Citibank we will meet accidentally
We’ll start to talk when she borrows my pen

Cake  – Short skirt/Long jacket

–I had recently read that Powell & Co would prefer to address the risk of equity market froth with macroprudential tools rather than tighter monetary policy.  They’ve put on a clinic with Citi.  The stock is down 12% in the past two days on talk of regulatory action to address inadequate risk control.  Going into today’s FOMC, stock indexes remain near all-time highs, but the Fed is widely expected to keep rates near zero for the next three years.  There is some talk of going out further on the curve in terms of bond purchases, but a resulting flatter curve would probably work at cross-purposes: the Fed needs a strong banking system in order to transmit policy objectives, and a flatter curve encourages financial intransigence.  Already, the Fed owns something like 20% of all mortgages:  Z.1 report coming out today, the last one showed household mortgages outstanding at $10.6 trillion and the St Louis Fed reveals that the Fed owns $2T of MBS.  In some ways it’s ironic that the Senate kicked Fed nominee Judy Shelton to the curb; her views have been associated with a less independent Fed and a gold standard.  Maybe that’s just too conservative for this QE infinity Fed?  https://fred.stlouisfed.org/series/WSHOMCB

–By the way, it’s not just the Fed doling out macroprudential justice.  NFLX has been on the receiving end of cancellations due to its show Cuties which is said to depict young girls as sex objects (NFLX down 14% from 9/1 to 9/14).  And Kim Kardashian is jumping on the bandwagon with her #StopHateFor Profit cancellation of Facebook.  

–Interestingly, front October ED contract was heavily bought yesterday with volume of 75k and an open interest increase of 12.5k, the largest OI change of any contract on the curve.  It traded 9975.5 but settled 9975.25, just one bp below the just expired EDU0 settle of 9976.27, even though Oct covers the turn.  Perhaps a hedge for more aggressive accommodation by the Fed today? 

–There was a note on ZH yesterday citing BofA which concerned the value of book value as a useful metric.   From the article:  

But, BofA asks, what’s more intuitively valuable to a company like Google: the physical buildings and the network servers inside them, or the intangible algorithms running on those servers? In other words, whereas traditional book value makes sense in an economy composed of factories, farms, and shopping malls, it is increasingly irrelevant in an economy driven by intangibles like patents, licensing agreements, proprietary data, brand value, and network effects.

And the punchline: from just 17% in 1975, the total value of corporate intangibles has risen to over $20 trillion, representing a record 84% of all S&P assets! 

Intuitively we all know of this change to intangibles, but it’s still a pretty stark stat!

Man the harpoons

September 13, 2020

On a week that featured over $100 billion in treasury note/bond auctions, and an announcement that the deficit hit $3 trillion with a month to go in the fiscal year, and with government spending at a record $6 trillion, the ten year yield eased 5.6 bps on the week to 66.6.  The week ended with April’22 thru July’22 Fed Funds settling at 100.015, slightly negative yields, going into this week’s FOMC.  These were the highest settles so far in September.  On the Eurodollar curve, the peak contracts are EDM’21 and EDU’21, both at 9982.5 or 17.5 bps.  The first eight ED contracts besides the (new) front Dec’20 are 9980 or higher.  Fed officials have repeatedly poured cold water on the idea of negative rates, but the market appears to be pressing for ever more accommodation.  SPX has pulled back just 7.5% from the all-time high set at the start of the month, and inflation data appear to be firming.  The ten-year breakeven (10y yield – 10y inflation-indexed note yield) has steadily marched upward since March, ending August at 180 and now at 167 (perhaps part of the pullback related to this week’s upcoming auction on Thursday of $12 billion TIPS).   

VIX continued to subside from the peak set on Sept 3, closing at 26.9.  In a sign of easing stress, the spread between October and Dec VIX contracts narrowed from a high of 7.45 (on 9/3 Oct VIX was 39.0 and Dec VIX 31.55) to just 2.45 Friday (Oct 31.87 and Dec 29.42).  We’re going into quadruple witching this week on Friday.  The topic of single name equity options trading has recently become hot, with a lot of the discussion concerning Softbank’s positions.  In early August, I had heard of some substantial positions being initiated during Asian hours in FB, MSFT, GOOGL and ADBE call spreads, all Nov expiry apart from ADBE in Oct. 

75k MSFT Nov 220/240cs
35k FB Nov 250/275cs
20k ADBE Oct 450/490cs
6k GOOGL Nov 1475/1620cs

I am only speculating, but I think those were Softbank buys.  Nothing particularly dangerous in being long call spreads.  Since then I have read that Softbank’s positions may have been collars, selling puts or put spreads and buying calls or call spreads.  Given all the talk of gamma sparking outsized moves, I thought it might be instructive to look at put open interest in expiring Sept options in large cap tech and determine if anything stands out in high gamma positions.  On Friday there will be a lot of options with deltas of either one or zero. 

I want to insert a disclaimer here: What I am doing is just scanning things on BBG.  This was not exhaustive research of going through every strike and position.  I am just trying to get a sense of large positions and exposure, because the whole Softbank situation seems to be fraught with dubious information, and stock index futures appear vulnerable to further declines.

First, I looked at Sept AAPL puts.  The stock trades 112.  The largest open strikes are 112.5p and 115p at 115k and 43k respectively.  Just for the sake of math, 1 put is 100 shares, 100,000 puts are 10 million shares.  Let’s just use 100,000 options as the example.  At a strike price of 112, the notional value is $1.12 billion.  On Friday these puts were 3.50 so the total premium in the strike is $35 million (just sticking with the idea of 100,000 open interest rather than actual 115k).  These puts are just in-the-money.  This strike is of further interest due to volume.  As can be seen on the attached chart, the largest daily volume was on August 11, right around the time we suspect Softbank was becoming active in their operations.  The volume that day was 50k (red circle), open interest surged to 81k and the premium was just over 7.  This information doesn’t tell us whether the initiator was a seller or buyer, but from press reports I am going to guess a seller.  Late last week Softbank said they had closed positions.  So either this is not them, or they are not being completely truthful.  By the way, at least one of the trades mentioned earlier, Nov MSFT 220/240 call spread, is still clearly open from looking at open interest.  Oct ADBE call spread still open as well.

As an aside, in this world of interconnectedness, I thought I would ask a couple of interest rate option market makers that work at large multi-product shops, if they had received information from their equity option colleagues regarding large-cap-tech options.  Of the few I asked, there hadn’t been communication as to these outstanding positions, which, in my tin-foil covered head, could have ramifications throughout markets.  Again, there’s the possibility that conversations did take place and they simply didn’t think it was appropriate to share.  My larger thought here is only this: there is a lot of market specialization that in some ways precludes putting together a big picture.

OK so that’s the conspiracy theory.  Now I will just mention a couple of other peak open interest Sept put positions.  FB closed 266.61, peak puts are 265 and 260 strikes at 15k and 17k OI respectively.  MSFT closed at 204, the 230 p is peak at 24k, these appear to have been traded on August 4, and in MSFT’s case there are a decent amount of other strikes with OI of 10-15k.  In GOOGL peak is 1500 put with 2600 open, the stock ended Friday at 1515.  These were also traded in early August.  ADBE trades 471.35, the Sept 450 p has 6k open as the peak; these were traded Aug 7.  NFLX 500p have 5.3k open with the stock at 482.  There is a fairly large spread of OI across lower strikes.  A good deal of volume in the 500p came on Sept 10, when the stock opened 503 and closed 480.  Open interest rose on that day in the puts, so they appear to have been protective buys and to have contributed to weakness in the underlying. 

The point of this little exercise is only this:  Sometimes, it’s just all about positions.  Nothing to do with earnings, or business prospects, or macro variables.  When the professionals sense a wounded whale with large positions, they get the harpoons out.  I am no where near close enough to equity options to know whether that is the case here.  However, I suspect it.  As Inspector Clouseau said, “Facts, Hercule, facts!  Nothing matters but the facts.  Without them the science of criminal investigation is nothing more than a guessing game!”  In this particular situation, trading action this week will reveal whether there are vulnerable put shorts or not. 

Of course, it’s not all just facts.  It’s assumptions and bias, greed and fear.  We like to think it’s scientific.  For example, the Fed on Sept 4, put out a press release regarding stress test results saying it had corrected “…an error in projected trading losses and as a result, revised [lower] the capital requirements for two [large] banks.”… “The loss rates for certain public welfare investments made by large banks were initially miscalculated, resulting in an overestimation of hypothetical losses for those investments.”  Capital requirements were trimmed by 1 tenth of one percent for Goldman and 2 tenths for Morgan Stanley. Translation: Worst case scenario you probably won’t lose as much as we thought.  (Because over time, housing and stock prices only go up).       

OTHER MARKET/ TRADE THOUGHTS

Implied vol in rates ended the week with a thud.  I marked TYZ0 139.5 straddle at just 3.7 vol, 1’50 vs 139-19.  As mentioned, VIX declined on the week as well, and the treasury auctions sailed through clear waters.  What does bear watching is the persistence of bond vol  being relatively high as compared to shorter maturities.  For example DV01 on TYZ is $91 per contract and on USZ is $216, so 2.4x.  TYZ vol is 3.7.  Multiplying that ratio by TY vol is 2.4 * 3.7 or 8.9, while USZ vol is actually 10.4.  This is one of the few pockets of the market that seems to strongly convey the idea that either inflation might take hold, or that supply might actually cause a price concession, or perhaps both. 

	9/4/2020	9/11/2020	chg
UST 2Y	14.9	12.7	-2.2
UST 5Y	30.1	25.0	-5.1
UST 10Y	72.2	66.6	-5.6
UST 30Y	146.5	141.7	-4.8
GERM 2Y	-70.0	-69.3	0.7
GERM 10Y	-47.2	-48.1	-0.9
JPN 30Y	60.6	57.8	-2.8
EURO$ Z0/Z1	-5.0	-9.0	-4.0
EURO$ Z1/Z2	5.5	3.5	-2.0
EURO$ Z2/Z3	14.0	13.0	-1.0
EUR	118.40	118.48	0.08
CRUDE (active)	39.77	37.33	-2.44
SPX	3426.96	3340.97	-85.99	-2.5%
VIX	30.75	26.87	-3.88

https://www.federalreserve.gov/newsevents/pressreleases/bcreg20200904a.htm

Worlds apart

September 11, 2020

–From Greenspan yesterday, “My overall view is that the inflation outlook is unfortunately negative and essentially the result of a huge increase in entitlements that are crowding out private investment and productivity growth, which is slowing down to about a 1% annual rate.”

–An early morning stock rally Thursday gave way to sellers in the afternoon as wrangling over stimulus measures continues.  Several reports have noted the stark drop in equity index liquidity recently; I would note that NQU0 is now routinely just 2 contracts per side bid/offer.  While volume continues to be relatively solid, large orders can easily push index futures with exaggerated moves.

–Midcurve euro$ options expire this afternoon.  EDU0 will settle to libor on Monday; it settled 9975.25 yesterday.  Several ED straddles were sold 0.5 to 1.0 under previous settlement yesterday.  EDU’21 9975 straddle settled 14.5 bps vs 9980.5.  So, over the next year, if nothing changes and libor remains around 25, a seller of the EDU’21 straddle could pocket just over 1 bp per month.  Doesn’t exactly forecast a year of trading opportunity in the short end.

–Core CPI this morning expected +1.6 vs 1.6 last.  Grains are showing a solid rally.  Nov’20 soybeans print 985 this morning, a new high for 2020 in this contract.  Previous high settle for the year was set on January 2 just over 980, the intervening low was 839 in April; it’s been a round trip.  Dec Corn settled 365 yesterday, highest since late March.  From a ZH article yesterday citing Rabobank and Bloomberg: “…here is something to study.  China has announced it plans to boost its strategic commodities reserves to assuage anxiety over energy and food security.  Starting in 2021 it will make what BBG calls “mammoth” purchases of crude, strategic materials, and farm goods…”  I don’t know if that’s part of the reason for grain and copper strength, but it doesn’t seem to be doing much for WTI, where the Oct contract has fallen from 43 on Sept 1 to 37 now. 

–It seems like a world ago when I was on the CME trading floor for the 9/11/2001 attack.  I was on a direct line with a client in midtown Manhattan who said that something had happened with a plane crash at the World Trade Center.  That was the initial information I rec’d and it was pretty vague.  News flow just wasn’t as instantaneous as it is now.  The actively traded front ED contract was right in front of me.  The pit was packed but prices initially did nothing.  Then the second plane hit and that same direct line lit, and I grabbed it (that part did happen instantaneously) and all I heard was “BUY! BUY!”.  I tried to buy 500 of the front contract and I think I bought something like 300 as the floor exploded with noise and ED contracts began to surge in price.  I recall thinking we could be the next target as the CME towers were near Sears Tower, the tallest buildings on the west side of Chicago’s loop.  It was a time of great uncertainty but stronger social cohesiveness.  We mend and proceed.

Soft bank… getting softer

Sept 8, 2020

–Yields surged Friday as stocks rebounded, with tens up 9.4 to 71.6 and thirties up 12.2 to 1.463%.  Curve steepened.  However, the bounce in stocks off Friday’s lows has failed, with Nasdaq currently down 260 to 11289.  There have been a lot of stories about Softbank having been the ‘Nasdaq whale’ that took outsized call positions ($4 billion in premium), thus causing a gamma squeeze, which has now played out.  I saw a news report this morning claiming that Softbank had exited all positions.  I do not believe that, and what’s more, price action in the stock itself suggests it’s not true,  Softbank (9984 JY <equity>) was slammed yesterday by 7%, and is down 14% from Wednesday’s close to today’s low.   

–Currency wars aren’t likely to provide a tailwind.  Here are a few quotes from a Reuters article yesterday, going into the ECB meeting this week. “The dollar (DXY) has already weakened by over 10% against a basket of currencies since mid-March to a more than two year low, prompting ECB chief economist Philip Lane to warn last week that the exchange rate mattered, even if the ECB didn’t target it.  “If there are forces moving EURUSD around. that feeds into our global and European forecasts and our monetary policy setting” Lane said.  “Emerging market economies, which are largely dollar funded, will benefit, at least initially,” former ECB board member Benoit Coeure said. “Europe may need to find new ways to support its economy in the face of permanently lower US rates.” Trump’s comments about decoupling from China are also a weight on US stocks.

–NFIB small biz optimism was already released this morning at 100.2, stabilizing after a bounce off the low.  Consumer Credit this afternoon.

Failure of democracy

Sept 6, 2020- Weekly comment

Paul McCulley is a legend in the financial industry.  Incredibly thoughtful, with brilliant depth of knowledge of economics and history woven into a grand worldview.  He was on an Odd Lots BBG interview with Joe Weisenthal and Tracy Alloway this week.  I am highlighting this interview because I believe it has bearing on how the Fed has been thinking about its new framework.  The quote that captured my attention is this:

“If the ideas that have worked over the last forty years work going forward, then democracy has failed.”

This was in response to Weisenthal’s question about whether a 60/40 investment split between equites and bonds was still relevant.  McCulley framed his response in the context of the broader investment and economic landscape.  I will quickly summarize how he reached his conclusion.

He started by saying that the last 40 years have been dominated by monetary policy, by the Federal Reserve, partially made possible due to that institution’s independence and technocratic decisions (“the adults in the room”).  Because of that, capitalism has dominated democracy.  He sees these two forces as somewhat incompatible but able to co-exist due to rule of law.  Capitalism is ruthlessly efficient, “win or lose based on smart or dumb” and has been heavily supported by monetary policy.   MonPol can be very efficient and can move quickly, in part because it’s separate from the sausage-making of politics.  Here is the crux of his argument: MonPol can’t channel support directly into main street, which he equates with democracy.  The Fed transmits its efforts through the banking system and monetary architecture which bypasses main street, thus exacerbating wealth inequality.  Financial assets have done well over the past 40 years due to a disinflationary backdrop.  However, when the economy arrives at the Zero Lower Bound (ZLB), the Fed must willingly become the partner of fiscal policy.  He says democracy has an inflationary bias, as politicians want to spend more than they tax.  (The Fed has the power to cut off that inflationary “fat tail”).   He further claims that capitalism has a DE-flationary bias, especially when abetted by the Fed, because capital triumphs over labor.  However, when the economy reaches the ZLB because the Phillips curve is flat as a pancake, then the Fed must become the subservient supporter of fiscal policy.  He says it unequivocally becomes the Fed’s job to “SAY YES” to larger fiscal deficits, in order to target wage growth.  In short the Fed must support fiscal efforts to shift the balance of power to LABOR over CAPITAL because labor represents democracy.  If it doesn’t, we’ve failed.

When I re-read my summary, I think it’s crazy.  It’s a roundabout defense of Modern Monetary Theory, and frankly, Stephanie Kelton does a much better job at explaining and supporting her proposals.  I think McCulley is brilliant, but he has rounded the bend with this one.  Not once does he mention the role of high tech with respect to its disinflationary impact, or for any other reason.  Not once does he mention demographics.  Not once does he mention the ramifications to general standards of living if his vision bears out.  He equates inflation with an increase in wages, an increase in wages benefits labor over capital, labor is Main St and capital is Wall St, the former is democracy and the latter is unfettered capitalism, therefore higher inflation is good.  Period.  The Fed can’t generate inflation when at ZLB, so it must serve the fiscal masters, which entails enormous deficits.  “Let the data tell us when we’re wrong.”

Allow me to briefly remove a step.  You’re wrong. 

Stephanie Kelton views an unwelcome overshooting in inflation as the limitation on her theory of MMT as well.  Wayne Gretzky is famous for saying.  “skate to where the puck is going, not to where it has been.”  I know and you know the puck bounces off the boards and sticks and skates.  I guess McCulley and Kelton see a flat sheet of ice with no walls and no opposing players, just flip the puck forward and it will frictionlessly glide forward towards an untendered goal.  Powell constantly refers to inflation expectations as a major determinant in actual inflation.  At least the Fed acknowledges walls and obstacles and possible second derivative ramifications. 

McCulley’s ideas represent a school of thought that has clearly influenced the Fed.  At Powell’s Jackson Hole speech he said the new framework statement will be informed by our “assessments of the SHORTFALLS of employment from its maximum level” rather than by “DEVIATIONS from its maximum level” as in our previous statement.  I.e. we’re fine with labor running hot.  It’s actually how the Fed has viewed stocks, and why there’s perception of an embedded Fed put: We react to a LOWER market but if it runs hot we’re all good.  Now the Fed is articulating some sort of labor/wage put.  Does that conversely imply that the Fed might now be a stock market CALL seller?  Hey, great timing Softbank!

It’s not that I personally don’t want to see labor gain in relation to capital.  I would applaud rebalancing.  I just don’t think government as it stands is likely to do a good job in effecting the transition.  In a country that is so rigidly divided along political faultlines, does It make sense to hand things off to the political class?  For either side?  About half the country will think any given policy is simply WRONG, whether it leads to inflation or not, (and there’s no guarantee that inflation equates to wage gains).  We are currently in a period which unambiguously requires more stimulus, and even now the parties aren’t able to agree on terms. 

Stephanie Kelton is sincere and convincing, and I believe there’s a good deal of sense in her argument, which is basically this:  ‘If deficits aren’t having an inflationary impact, doesn’t it make sense to run them in order to put people to work?  Let’s make the conversation about societal goals rather than how to pay for programs that aren’t generating inflation in any case.’   McCulley takes it a step farther and specifically advocates wage inflation and a shift in power to labor over capital.

About ten years ago I received a traffic citation, for which I appeared in court to contest, and lost.  The magistrate informed me that she was just sitting in and didn’t regularly work that jurisdiction, and that I could appeal her decision, which I decided to do.  I went to the imposing fortress known as Chicago City Hall, with its magnificent limestone pillars of justice, to file my appeal and request a new date.  The operative word, in this case, was not “justice” but “file”.   I was directed to an office on the fourth floor, and pointed to a desk in a vast room that consisted of long counters fronting endless rows of old metal filing cabinets and inquired as to how to file my appeal.  You get the picture, an oscillating fan in the corner gently rustling papers as it made its sweep of the realm.  The woman behind the counter was a sharply dressed middle-aged black woman, friendly and helpful, who handed me a ballpoint pen and the forms to fill out, and charged me the fee.  “Make sure you press hard on those forms honey, because there’s four sheets with carbon paper and we need to make sure we can read the bottom page.”  What could I do besides smile (and press hard)?  CARBON PAPER.  FILING CABINETS.  I’m not going to make the generalization that Chicago City Hall represents democracy and labor in a larger sense.  I will however, venture to say that a dollop of capitalistic technology to move things along can be helpful.  End result, after another experience (like a Kafka novel) of sitting in a crowded court awaiting the judge, who came in and suggested that anyone who wanted to avoid an additional delay could pay their fine and have court costs refunded could do so, I got up, paid my $250 and walked out into the warm summer morning in the City that Works.     

Just a couple of anecdotal notes to wrap up this section.  First, Friday’s employment report included yoy wage growth of 4.7% (Avg Hourly Earnings).  The growth in wages this year has been higher by far than any other year in the past ten.  Second, even with stocks falling on Thursday and Friday, bonds (TYZ, USZ, WNZ) had their lowest settlement of the week on Friday.  Many analysts have commented that these yield levels provide no measure of protection if stocks falter.  So maybe McCulley is right and we’re NOT looking at the inevitable failure of democracy:  wages are going up and 60/40 isn’t working. 

OTHER MARKET/ TRADE THOUGHTS

This week starting Tuesday, treasury auctions $108 billion, of which $87 billion is new cash: Tuesday $50b in 3’s, Wed $35b in 10s and Thursday $23b in 30’s.  On Tuesday the Fed is buying $1.75b in 20-30 yr treasuries and on Friday, $6 billion of 4.5 to 7 yr treasuries.  Also during the week, the Fed will buy over $21 billion in 15-30 yr MBS/agencies. 

On the week ending Friday August 28, many measures of the curve closed at or near new highs for the year.  For example, 5/30 had ended at 123.4 bps on 8/28.  By the middle of last week, gains had evaporated, with 5/30 back down to 110 on Thursday.  However, on Friday, steepening again took hold, and 5/30 ended at just over 116.  2/10 closed the week at 56.7 down just 2.6 from the previous Friday’s close.  On the Eurodollar curve, some of the nearer calendar spreads actually closed higher on the week.  As an example, EDZ’21/EDZ’22 which had been bought in good size at 3.5 a couple of weeks ago, closed 5.5 on Friday, up 1 on the week.  The short leg of this calendar, EDZ’22, had seen additional pressure in the previous week with a buy of 125k 2EZ 9962/9950ps for 2.5 (ref 9973).  This week that put spread settled 2.5 vs 9970.5. 

One other note that I find quite interesting.  Over the past few years, aggregate open interest in the Ultra-bond WN contract exceeded that of the classic bond (US).  This year, that relationship has changed.  In 2019, WN hit a peak OI of 1.28 million but averaged around 1.2.  US, by comparison, averaged around 1 million.  However, this year in late Feb when WN spiked to 1.375 million, US surged to 1.49.  Over the active life of the Sept contracts (June to end of August), US steadily increased from 1 million to 1.2.  WN did the same, but the surge was only during the calendar roll.  Since the roll, WN dropped back down to 1.001m contracts, while US remains relatively high at 1.147m.  I attribute this change to the fact that ultras never developed an option market, and the US contract is seeing renewed interest in option activity/hedges (as had been predicted by option market maker RK, thanks).  There is virtually no open interest in WN options.  Bond vol has also been the strongest thing on the board.  Dec treasury options expire 20-Nov, after the election.  Current DV01 on USZ0 is $215 for one contract.  Shorter term historical vol measures are now catching up to Dec implied, which may have implications for the shape of the curve. 

	8/28/2020	9/4/2020	chg
UST 2Y	13.3	14.9	1.6
UST 5Y	27.4	30.1	2.7
UST 10Y	72.6	71.6	-1.0
UST 30Y	150.8	146.3	-4.5
GERM 2Y	-66.5	-70.0	-3.5
GERM 10Y	-40.9	-47.2	-6.3
JPN 30Y	61.7	60.6	-1.1
EURO$ Z0/Z1	-7.0	-5.0	2.0
EURO$ Z1/Z2	4.5	5.5	1.0
EURO$ Z2/Z3	13.5	14.0	0.5
EUR	119.07	118.40	-0.67
CRUDE (active)	42.97	39.77	-3.20
SPX	3508.01	3426.96	-81.05	-2.3%
VIX	22.96	30.75	7.79

https://www.newyorkfed.org/medialibrary/media/markets/ambs/AMBS-Schedule-082820.pdf

Soft stocks flatten curve

Sept 4, 2020

–DJIA down 2.8%, SPX -3.5% and Nasdaq dumped 5.0%.  So of course yields pressed somewhat lower, with tens ending down 2.7 to 62.2.  Curve continued its retreat from last Friday’s highs, with 2/10 now just below 50, lower by 1.7 on the day.

–Today brings the Employment report, with NFP expected 1.35 million and the jobless rate at 9.8%.  

–Earlier this week TSLA said it would sell up to $5 billion in shares from time to time.  A big tailwind for investors has been share buybacks.  After the stock split TSLA was $500, now $400, a quick 20% power outage.  Could it be that when companies are BUYING their own shares, stock prices are supported and when they are SELLING, the stock price is vulnerable?  

–Then why didn’t that seem to work yesterday when China said it might whittle down its US Treasury holdings to $800 billion from a bit over $1T?  Here’s how THAT phone call might go: “Hello, China Treasurer?  This is Lorie Logan at the NY Fed.  I understand you might want to sell some treasuries?  Yes, ok well I am bid.  Yes, in your size.  Yes, I understand that you didn’t specify, but I did.  In your size.  Yes, whenever you’re ready.  UmOK, let me know…” Click.  

–Having said that, the US Treasury is auctioning over $100 billion in 3, 10 and 30 year paper next week at very skinny yields.  Possible indigestion? 

A boring double butterfly story

September 3, 2020

–In spite of a 1.5% surge in SPX and 1% in Nasdaq to new highs, longer end yields fell with tens down 2 to 64.8 and 30s down 4.3 to 1.374%.  Curve flattened.  After Powell’s Fed framework speech last Thursday, 5/30 had posted a new high for the year, ending at 123.4 on Friday.  Yesterday it was down to 112 as the market appeared to conclude that the Fed’s mindless buying of assets will never allow inflation to take hold.  The dollar rebounded, bitcoin was pummeled. 

–Jobless Claims and ISM Services today in front of tomorrow’s payroll data.

–A colleague mentioned a trade to me yesterday (thanks LL, I guess), 5k EDH’23/EDU’23/EDH’24/EDU’24 double butterfly at -1.0.  You may want to stop reading right here.  A sale of a butterfly is -1/+2/-1.  A double is one fly against another, so -1/+2/-1 vs +1/-2/+1, or aggregated, -1/+3/-3/+1.  These trades were popular with the locals for exploiting the turn, or for forecasting possible Fed activity.  If legs are equidistant, as they are in this case ( a 6-month double) then it’s the middle spread, which is 3x as large, which determines the double.  In this case, just imagine that the Fed is on hold, but is guaranteed to raise 25 at every meeting beginning in Dec 2023.  Then EDH’23 to EDU’23 might be nearly flat, but EDU’23 vs EDH’24 might go as high as 75 and EDH’24 to EDU’24 also to 75.  In this case, the double would be Negative 150 (0 -75*3 + 75).  In reality, a back month double is quite stable as the attached chart of ED11-3*ED13+3*ED15-ED17 shows, although there can obviously be roll dynamics over time.

–In any case, there are a couple of odd things about this trade. First, on Tuesday it had settled -2.0.  Yesterday, it traded -1 and was small -1 bid into the end of the day.  However, it settled -2.5.  Paper must have thus been a buyer of the double.  Open interest changes, -9k, +4k, +7k, -400.  Doesn’t reveal much, although from my chart it appears to be smack-dab in mid-range, so there’s no “edge”. (Now tell him the GOOD part Mortimer).  I would also note EDH’22 was down 9k in OI, so since EDH’23 was down 9k, it looks like someone exited EDH2/EDH3 one-year.  From my vantage point, it’s worth selling the dbl at -1, figuring on a settle at -2 and then legging out over time.  Of course, why go to all that effort when you can just buy Nasdaq?

Settles:
EDH1 9979.0
EDU1 9980.0
EDH2 9979.5
EDU2 9977.5
EDH3 9973.5
EDU3 9967.5
EDH4 9959.0
EDU4 9950.5
EDH5 9940.0
so
H1 6-m dbl  0.00
H2 6-m dbl  0.00
H3 6-m dbl -2.50

Fated

September 2, 2020

–Stock futures are at new highs this morning, causing modest pressure on fixed income.  Yesterday tens ended at 67 bps, down 2.3.  Curve edged flatter, implied vol fell.  Brainard gave a boilerplate speech outlining the new Fed framework…basically that the Fed fell short previously and will be flexible going forward, in the form of FAIT (Flexible Avg Inflation Targeting).  Which is part of Fait accompli.  Which means we’re F’ed.  Fated, I guess.

–“They pretend to pay us.  We pretend to work.”  There were two stories yesterday that give an indication of where we are in terms of market signals.  One, the CDC halted evictions of renters through the end of the year to prevent disease spread.  Two, the Federal Reserve now owns 30% of outstanding MBS.  According to the Fed’s Z.1, Household Mortgage Debt totaled $10.7 trillion at the end of Q1.  Just since March, the Fed has bought $1 trillion of MBS.  These are staggering numbers.  By the way, you might recall that after the last crisis, there were a lot of empty houses.  According to the Atlantic, “…the gov’t incentivized Wall Street to step in.  In early 2012, it launched a pilot program that allowed private investors to easily purchase foreclosed homes by the hundreds from the gov’t agency Fannie Mae.” Blackstone, among others, became huge landlords.  Now the CDC tells lessees don’t bother with rent, but the Fed tells landlords, ‘not to worry, we’ll cover your interest carrying costs’.  No WONDER stocks are going up.  Of course, I am joking.  But when Fed officials continue to say that more fiscal stimulus is essential (Barkin chiming in this morning), it highlights the fact that traditional payment agreements and markets of all sorts have ceased to function at the margin.  The question is, how big is the margin?  I don’t know, but if a risk should now develop that endangers the new “wealth” created in equities, that margin will get bigger, and so will the Fed’s role. 

–News today includes ADP, Factory Orders, Durables and Fed’s Beige Book.  ISM mfg yesterday at 56.0 was the highest since late 2018, and Prices Paid at 59.5 also highest since late 2018.

• ABOUT:
  Former member of the CME specializing in interest rate options and yield curve strategies.