Hogs

Feb 25, 2021

–I got a call yesterday from a friend (DK) telling me that the Aug/Oct Live Hog spread was blowing out to new historic highs.  I have traded most futures contracts at one time or another, but have never been involved in the meats.  It might be because the meat desk at Refco could have been its own sitcom… scared me off.  In any case, I took a closer look at the Aug/Oct spread.   Supposedly, it’s a seasonal sale, but the nearer contract is just crushing the deferred, and the spread is making new all-time highs.  It has never been above 13.50, but now trades 14.45.  We might ask, what does it have to do with anything else?  I have previously posted some charts on grains which show the same dynamic:  front contracts are strong.  Here’s the hog spread:

–I also took a look at a deferred WTI one-year crude oil spread, the 6th contract to the 18th contract.  In the pandemic pandemonium when the front contract went negative, the calendar was hugely inverted at about -7 dollars.  Now, the magnitude is nearly the same, but the front contract is at a premium of about 6.50.  Typically, I think of aggressive demand of fronts vs deferred as an indication of tight supplies.  The spread chart is in the lower panel.


–In connection with that, at Powell’s testimony yesterday, there was a question about inflation.  Powell gave a rather interesting example, relating to the shortage of computer chips that has choked off the manufacture and supply of autos.  He said that inflation is an increase in prices which occurs year after year, and although the price of cars may go up due to this temporary shortage, it’s essentially a one-off event.  He also was asked about the 25% year-over-year growth of M2, and he flippantly said that the monetary aggregates USED to have predictive capabilities, but now they don’t.  
–The Fed is being very clear about NOT being worried about inflation.  Brainard also gave a rather interesting speech on the Fed’s thinking about the labor market yesterday as well.  The Fed is not worried, but one example after another shows that the MARKET IS WORRIED.  Just ask the guy who is short the near contracts….
–Yesterday rates rose, with 10’s up 2.2 bps to 138.2.  The curve continued a steepening bias.  5/30 posted a new high 162.7 (using old 5y).  Today treasury auctions sevens.  EDM3/EDU3, the libor extension kink, settled +1 at 21.  The highest settle has been 21.5.  One-year calendars on that part of the curve closed at new highs.  For example, EDM2/EDM3 closed at 31, up 1.5 on the day, and EDU2/EDU3 at 48, up 2.5 on the day.  Option plays continue to favor long puts or put spreads vs calls.

Executive Orders

February 24, 2021

–Not much new in Powell testimony to Senate; he appears before the House today for a series of inane political speeches.  Ten year yield eased to 136 yesterday, down 1.2.  5/30 posted a new high of 162 bps.  5yr auction today.

–Reuters reports that Biden will sign an executive order today to launch “an immediate 100-day review of supply chains for four critical products: semiconductor chips, batteries for electric vehicles, rare earth minerals and pharmaceuticals.”  I’m no expert but it seems to me a lot of that supply comes from China.  What do we do with the next 99 days?  If the US wants to switch fabrication to domestic shores, I would guess that prices will shift higher.

–A KC Fed research piece from Jan 29 notes: “The indexes for input and selling prices continued to increase at a faster pace than a month ago, especially the input price index which reached its highest reading in survey history (since 2014).  Firms expected input and selling prices to continue to grow in the next six months.” Thanks AOK.  No.  There’s no inflation.

–Another Reuters article outlines the “investment” craze for collectibles: “Once the preserve of the super-rich, or just the eccentric, all kinds of unusual investments from vintage handbags and shares in fine art to rare Pokemon cards are now the happy hunting ground for stuck-at-home punters.”  Reminds me of the guy that wrote in to the auto advice column.  “I have a Ford Pinto and I heard it might turn into a collectible.  I’m thinking of storing it on jacks in my garage.”  Response, “Good idea, maybe in a few years the jacks will be worth something.” (And you can throw your vintage purse on the front seat).

When does stimulus become NEGATIVE for stocks?

February 23, 2021

–Yields at the very front end are underpinned by low libor settings and talk of negative t-bill rates as the gov’t draws down its TGA balance.  The first four eurodollar contracts were unch’d except EDZ1, down 0.5.  The red pack was -0.375.  However greens and blues were both down 3.  New highs once again in most curve measures with 2/10 up 2.5 bps to 126.  The ten year yield rose 3 bps to 137.2.  Implied vol in treasuries is making new recent highs on the move to lower prices.  

–Big tech appears to be rolling over with AAPL closing 126, its lowest close of the year.  Bitcoin continues to trade under pressure, now nearing 47k.

–Powell appears before the Senate banking committee for semi-annual testimony.  The summary was released Friday and maintains a downbeat tenor, even as news stories are indicating that factories are having trouble satisfying increased demand.  WSJ headline: ‘Consumer demand snaps back. Factories can’t keep up.’  As usual, Powell will downplay inflation and focus on employment shortfalls.  The reaction in stocks should be interesting….previously more stimulus equated with more stock buying.  Now the market is becoming more attuned to Powell’s comments with respect to forward rates, and the implications are much less positive for equities.

Powell Semi-Annual Testimony

February 21, 2021

Last week I noted some short term targets in curve levels, most of which obtained last week.  2/10 closed out on the high at 123.4 bps, up 14.3 on the week; I targeted 125 to 127.  5/30 closed at 156, I am anticipating resistance at 162.  Red/gold Eurodollar pack spread soared by 23.25 bps to 136.625.  The ten year yield rose just over 14 bps to 1.34% and the thirty year just over 13 to 2.136%. 

Volume was heavy on Friday with notable continued weakness in the back end of the dollar curve where the gold pack (5^th year forward) closed down 8.5 on the day and 24 on the week (nearly a Fed hike).  There is continued heavy trade in deferred Eurodollar options, mostly slanted toward higher rates.  As an example, on Friday there was a seller (adding) of 75k EDH3 9975 calls at 9.5 covered with a 40 delta from 9965 to 64.  Open interest rose on Friday to 327k, up over 200k since the end of January.    

Apart from this seller, implied vol is showing some signs of panic.  Early in the week I sold some EDU22 9962.5 put for 6.5 with futures trading 9974.5.  On Friday these were lifted at 7.5 with the same futures level.   

On Friday the Fed released the text of the semi-annual testimony to Congress; Powell will appear on Tuesday and Wednesday.  This report is biased to the downside with respect to inflation in spite of market action with stocks near all-time highs and the yield curve bear steepening.

Here are a couple of excerpts:

…weak aggregate demand and low oil prices have held down consumer price inflation. 

…domestic product (GDP) fell a cumulative 10 percent over the first half of 2020, and the measured unemployment rate spiked to a post–World War II high of 14.8 percent in April. 

One of the new Fed talking points is that the jobs data understate true unemployment.  In the excerpt above it’s by referring to the “measured” unemployment rate.  On the inflation front there’s no such bias, even though most individuals (as evidenced by the U of M inflation expectations survey) feel like inflation is a problem.

The 12-month measure of PCE (personal consumption expenditures) inflation was 1.3 percent in December, while the measure that excludes food and energy items—so-called core inflation, which is typically less volatile than total inflation—was 1.5 percent. 

Spreads of yields on corporate bonds over those on comparable-maturity Treasury securities narrowed significantly, partly because the credit quality of firms improved and market functioning remained stable.   

Credit quality has improved???  If so, it is only because of low rates and government largesse.  What happens to credit quality over time if the back end of the Eurodollar curve is right about a forward projection of rates.?  Gold ED pack up 24 bps in a week!  Let’s hope nominal GDP growth is large enough so that interest carrying costs are easily absorbed.

A couple of more excerpts:    

Although government programs have supported business and household incomes, some businesses and households have become more vulnerable to shocks, as earnings have fallen and borrowing has risen. Strong capital positions before the pandemic helped banks absorb large losses related to the pandemic. Financial institutions, however, may experience additional losses as a result of rising defaults in the coming years, and long-standing vulnerabilities at money market mutual funds and open-end investment funds remain unaddressed.

The Committee’s employment and inflation objectives are generally complementary. However, under circumstances in which the Committee judges that the objectives are not complementary, it takes into account the employment shortfalls and inflation deviations and the potentially different time horizons over which employment and inflation are projected to return to levels judged consistent with its mandate.

That is, we are emphasizing employment over inflation. 

OTHER MARKET THOUGHTS/ TRADES

Ark’s Cathie Wood whose high-flying new economy portfolios have made her firm a standout star, warned last week that higher interest rates could cause a reset of asset valuations.

As mentioned above, implied vols are perking up.  Treasury vol has been highly directional ended the week at new recent highs with TYJ 4.3 and USJ 9.7.  4EH 9850 straddle settled 20.5 with 19 days until expiry; EDH5 moved 22.5 on the week.

	2/12/2020	2/19/2021	chg
UST 2Y	10.9	10.7	-0.2	w/I 11.0
UST 5Y	48.5	57.7	9.2	w/I 59.2
UST 10Y	120.0	134.1	14.1
UST 30Y	200.4	213.6	13.2
GERM 2Y	-70.8	-68.1	2.7
GERM 10Y	-42.8	-30.5	12.3
JPN 30Y	66.3	68.4	2.1
CHINA 10Y	324.3	326.6	2.3
EURO$ M1/M2	5.0	6.0	1.0
EURO$ M2/M3	19.5	27.0	7.5
EURO$ M3/M4	50.5	60.5	10.0
EUR	121.20	121.20	0.00
CRUDE (active)	59.38	59.26	-0.12
SPX	3934.83	3906.71	-28.12	-0.7%
VIX	19.97	22.05	2.08

Another planet

February 19, 2021

–I watched two very different live-streams of the US government at work yesterday, the Financial Committee hearings on Gamestop and NASA’s successful landing of the Perseverance rover on Mars (with the Ingenuity helicopter).  Could there possibly be a starker contrast?  Everyone at NASA talks about the success of the team and joint efforts over long periods of time on incredibly complex problems.  Vote NASA.

–Examples of price pressure continue.  Prices paid in the Philly Fed report jumped to 54.4 from 45.4 in Jan and 24.9 in Dec.  Cass Transportation had this to say about their latest data: “Once again in Jan, our data tells a story of rising freight costs, showing the fastest rate of acceleration since 2009-2011, with the exception of a few months in late 2018.”

–Yesterday the only contract to close in the red on the eurodollar curve was EDH’23 at 99.655, down 0.5 on the day.  The curve flattened, with blues (4th year) up 3.125 and golds (5th) up 3.5.  The ten year yield eased slightly to 128.5; vol oozed out across the curve.  Back to EDH3: it was easily the most heavily traded contract at 332k, the adjacent EDZ2 traded 300k, while the next closest only traded a bit over 200k.  Open interest on EDH3 (prelim) was up 58k.  Obviously, this is new selling, but of course it may be against something else.  However, as I mentioned over the weekend, EDZ2 at 9970 (settled at 69) is an outright sale at ~ 10 bps above the current libor setting.  The same goes for EDH3; at yesterday’s settle of 9965.5 or 34.5 bps, it’s about 16 higher than yesterday’s libor setting, and is over TWO YEARS away, in the face of inflation pressures and an economy that has the possibility of roaring back like a kitty.  I would say it’s an asymmetric bet!  Afraid of a blow-up that sends yields negative?  Yesterday someone traded the EDH3 9950/9900ps which settled 7. 

these are the people I want working in the gov’t
https://www.youtube.com/watch?v=ozuhvNcsoNM   (ashtrays and cans of Royal Crown Cola on the desks!)
https://en.wikipedia.org/wiki/MiMi_Aung  (lead engineer on Ingenuity helicopter)

https://www.youtube.com/watch?v=ozuhvNcs

The mob is having a riot

February 18, 2021

–Yields mixed in spite of robust retail sales data.  30’s fell a couple of bps to 205.4.  Front end had a strong bid with a new all-time low in libor of 0.18138.  2yr note eased 1.4 bps to 10.7. However blues and golds in dollars were down 1-3 bps.  A couple of late large trades…+25k TYM 132 p 18-20…settled 22 vs 134-21, about 30 bps away.  Seller over 50k 2EU 9912/9887ps 3.5 ref 9934.0, settled 3.75 vs 33.5.  Both new trades, though this latter could be against the 3EU 9937/9862 combo from last week (long puts).   EDU3/EDU4 (green/blue Sept) settled 51.0 at 9933.5 vs 9882.5.  Quite a difference from front EDU1/U2 at 7.

–Philly Fed today expected weaker at 20 vs 26.5.  Not sure this makes a difference but Price Paid in the last report soared to 45.4 from 24.9…the high in 2018 was just over 60.  The market is already pricing concerns about stronger data and higher inflation pressure, the question is how much is already reflected?  The answer is ‘not enough’.

–In dollars, white pack +1.3 on the day, reds +1.75, greens +0.875 and blues -1.25.  So still seeing new highs across the ED curve.  2/10 at 118.5 up 1 on the day to a new high. 

–Other news includes Jobless Claims expected 770k from 793.  Housing Starts expected 1666k from 1669k.  Philly Fed 20 from 26.5.  

–Riot Blockchain (RIOT) has gone from 20 to 80 in the month of February as bitcoin has also popped.  Thank goodness these technologies don’t rely on electricity.  WTI also at a new high this morning, with CLJ1 over $61 from sub 38 just four months ago in November. 

Last Straw?

February 17, 2021

–The curve steepened to new highs yesterday with 2/10 at 117.5 and 5/30 at 152.7.  From Friday’s close, red/gold pack spread widened a whopping 13.625 bps to 127.  As mentioned over the weekend, some near term targets are close at hand: 125 to 127 in 2/10 and 160 to 162 in 5/30.  Ten-year inflation breakeven closed at a new high 225 bps.

–Nice buy of 125k 3EM 9875p last week for 3.5 ref 99.09.  Settled 7.5 yesterday vs 9896.5.  

–I saw a couple of things on twitter about if/when the Fed ‘panics’ with this rise in rates.  One client asked how the Fed might signal that it intends to cap longer term rates.  I think the first clue would be when Fed officials start to voice worries about mortgage rates and the possible slowdown of the housing market. Of course, Powell already said that a lot of housing strength was likely temporary as people changed homes due to COVID.  In any case, I have seen several recent news items noting that mortgage rates are at all-time lows.  Currently the 30 year mortgage rate is about 2.75%.  On $250k that’s $1020 per month.  At 4% the payment goes up 16.5% to $1194.  Enough to change the equation?  I’m not sure, but I do know that interest rate cash flows are the eventual straw on the camel’s back.

–In 1987, before the October crash, tens went from around 7.25% in March to 9.25 in the beginning of October, an increase of about 27% in terms of yield change.  Before the big Nasdaq crash, the ten year went from around 5.25% in Q1 1999 to 6.75% by Jan 2000, an increase in yield of about 28%.  This time around, we’ve seen tens go from about 60 bps in August to 130 bps now…more than double.  Of course, corporate bond yields and mortgages remain close to historic lows, but eventually there’s a spillover.

 

Levels

February 14, 2021 – Weekly comment

“There is a sharp, and artificial decline in rent inflation that is tied to eviction moratoria.  When moratoriums end, shelter inflation will rebound and add roughly 0.9% to core inflation in a short period of time.” -Enduring Intellectual Properties, Feb 13 Inflation Report    Info@EnduringIP.com

“Inflation that runs below its desired level can lead to an unwelcome fall in loner-term inflation expectations, which, in turn, can pull actual inflation even lower, resulting in an adverse cycle of ever-lower inflation and inflation expectation.”  Chairman Powell

Powell has emphasized inflation expectations repeatedly in his comments, mostly in the context of downward risk.  The new risk is a psychological shift to the upside.  University of Michigan’s 1-year inflation expectation survey was released last week at 3.3%, the highest level since 2013.  The 5-10 year number was 2.7%, matching the highs of last year (this series has been between 2.3 and 2.7 since 2016).  The ten-year inflation breakeven (10y treasury – inflation indexed note) hit a new high of 222.5.

Nearly everyone agrees that rapid money supply growth and fiscal stimulus has led to stock market buoyancy and pockets of distortion throughout the economy.  This has fed into changes in forward interest rates.  This note outlines some of these changes.  Last week ended with new highs in most curve measures as noted below:

2/10 109 bps      high since April 2017.  High in past 5 years 135.5 Dec 2016.  Near term objective 125-27
2/30 189.5           high since Dec 2016.  High past 5 years 203.5 Dec 2016.  Near term obj 198, then 220-25
5/30 152               high since 2015.  There are a few highs in 2015 155-157. Resist 162 then 190 – 195

Since short end yields are pretty much locked up, the thirty year bond yield on its own defines some of the curve levels.  This area, 201 to 203 bps should be initial resistance, with 240 to 256 a more important objective.  Friday’s futures close in cash was 200.4.

Red/gold ED pack spread 113.375. (years 2022 to 2025)
This is at its highest since 2015 and at the 38% retrace from the 2013 high of 306 to the 2018 low of -6.

Green/blue ED pack spread 46.0 (years 2023 to 2024)
This is at the highest since 2015, testing those highs.  It’s through the 38% retrace from the 2013 high of 117 to 2018 low of -3.  This is the “meatiest” part of the ED curve, as it encompasses the libor cessation and is three years forward, when the Fed is expected to have resumed ‘normalization’.      

The peak one-year Eurodollar calendar is EDM’23/EDM’24 at 50.5 bps (new high).  Therefore, it makes some sense to look at EDM4 on its own, the second blue.  On Friday it made a low of 9907.5 and settled 9909, the low in this contract since March 2020.  Not surprisingly, there has been constant put buying on this contract through midcurves (3EM1).  For example, early last week a new buyer of >100k 3EM 9875p for 3.5, settled 3.5 ref 9909.  I’ll note a couple of other large ED put plays below.  First, here’s futures pricing:

EDH’23                  9968.0
EDM’23                9959.5
EDU’23                 9941.0

EDZ’23                  9930.0

EDH’24                 9920.5

EDM’24                9909.0

EDU’24                 9898.0

EDZ’24                  9887.0

Buyer of over 40k 2EM 9937.5/9912.5ps up to 2.0.  Settled 1.5 vs EDM3 9959.5.  Buyer of 60k 3EU 9862.5p vs 9937.5c for 2.25 to 2.5.  The put settled 7.0 vs EDU4 9898.0.  The salient points are that the market is becoming comfortable with deferred futures levels above 1% yields (below 9900) and continues to accumulate puts on those contracts.  Total blue March midcurve put open interest is 1.283 million while blue June is gaining traction at 842k.  By comparison EDH4 futures have 436k positions, and EDM4 289k.  Three-month futures calendars in blues are around 11 bps which adds a roll-up aspect to the decay of long puts.  Compare that to the EDZ’21/EDZ’22 one-year calendar at only 9.0 bps.  If the Fed were to change or be forced into a hiking cycle, outright FF target changes will more than compensate for decay at these low vols. We’re still barely flirting with 1% forward levels.  

OTHER MARKET THOUGHTS/ TRADES

This is sort of a repeat from last week, but EDZ2 at a price of 9970.0, just 10 bps above the current 3-month libor setting and still embedded with a credit aspect, is a sale, plain and simple.  The high settle of this contract was 9981 on August 3 of last year.  There are 673 days until expiration.  It took 392 days from Powell’s “we’re a long way from neutral” comment on Oct 3, 2018, when the FF target was 2-2.25% to 50 bps lower at 1.50-1.75% by October 30, 2019.  Of course it’s easier for the Fed to ease than hike, but we may not be that far away from the market taking a preemptive step.  On Jan 27, Powell said in the FOMC press conference, we’re “a long way from our employment and inflation goals.”  I’ll go out on  limb and say the first Fed hike will be March 16, 2022, 413 days from the Jan 2020 FOMC, which will be right after the end of Powell’s term as Fed chair in February 2022.

	2/5/2021	2/12/2020	chg
UST 2Y	10.5	10.9	0.4
UST 5Y	46.6	48.5	1.9
UST 10Y	118.5	120.0	1.5
UST 30Y	197.0	200.4	3.4
GERM 2Y	-71.1	-70.8	0.3
GERM 10Y	-44.8	-42.8	2.0
JPN 30Y	65.3	66.3	1.0
CHINA 10Y	322.1	324.3	2.2
EURO$ H1/H2	2.0	2.0	0.0
EURO$ H2/H3	12.5	13.5	1.0
EURO$ H3/H4	45.0	47.5	2.5
EUR	120.50	121.20	0.70
CRUDE (active)	56.70	59.38	2.68
SPX	3886.83	3934.83	48.00	1.2%
VIX	20.87	19.97	-0.90

Or fester like a sore, then run

February 12, 2021

–Yesterday the 2-year note dropped to an all-time low yield below 10 bps but ended near 11.  The longer end had modest increases, with tens up 0.6 to 115.8.  Large trade in eurodollars was a new buy of 40k 0EU 9950p for 1.5 mostly covered 9976.5, settled 1.25 vs 9977.0.  These are just over one-quarter percent out of the money and expire in September on EDU’22.  Feb ED midcurve options expire today.  March treasury options expire on Friday.  The theme of buying midcurve put structures in greens and blues is relentless, but moving up to 0EU is perhaps a bit aggressive.

–The last couple of days there have been several articles about the drawdown of TGA balances at the Fed (Treasury General Account) and the stimulative effect from these funds being pumped into the economy.  A client asked yesterday if it was ‘double counting’.  I certainly don’t know, but that question is a valid one.  Everyone is well aware of stimulus checks which are soon to be credited to households; these are the funds in part which will be withdrawn from the TGA.  One might make the case that the likely boost from this cash transfer is already in the market, if not yet in the Main Street economy.  Myriad examples of speculative moonshots followed by flameouts in smaller individual stocks is likely reinforcing a ‘zero-sum’ aspect of day trading with the dawning realization that evil hedge funds are not being eradicated.  Rather, the market architecture is simply adapting to let the dreamers who want a roll of the dice to have a go of it, with the encouragement of sycophants like Mark Cuban and others.  If it’s a crime to incite the mob, we have plenty of candidates.  

We’re a long way…

February 11, 2021

–Reuters has a headline today which summarizes the environment: “Global stocks nudge higher, sustained by bottomless stimulus.” From yesterday’s comments, Powell is focused on the undercounted unemployment numbers as justification for nonstop accommodation, saying “we’re a long way from a strong job market”. That’s an echo of the infamous “we’re a long way from neutral” from October 2018 which coincided with QT notching up to $50 billion per month, sending stocks into a tailspin and leading to an about-face in Fed policy.

–In what is perhaps another sign of percolating markets boiling over, platinum has taken out highs from 2016.  Since November, April platinum has jumped nearly 50% from 875 to 1275 (the spike high in 2008 was over 2000).  I guess that’s not as impressive as Lumber, where the March contract has more than doubled since October, from about 440 to 950 (thanks AT).  

–Rates don’t seem to care, with tens down 2.4 bps to 113.3, rallying into and out of the auction.  Thirty year auction today.  However, there is continued accumulation of blue midcurve puts.  Yesterday 3EU 9862/9937 risk reversal was paid 2.0 to 2.25 for 40k.  Put settled 6.25 and call 4.0 ref 9904.0s in EDU4.  At the same time, treasury vol continues to succumb to the blanket of financial repression going into next week’s March option expiration.  TYJ vol now at low end of range, just 3.0. Midcurve puts: focus on where the puck is going to be, not where it is now.

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