Unemployment rate supports taper
October 10, 2021 – Weekly Comment
The unemployment rate is back where it was in 2006-2007, having printed 4.8% on Friday. In this earlier period, U-rate fell as the Fed hiked rates every single meeting for two years from 2004 to 2006. In May 2004 the unemployment rate was 5.6%. The Fed began its tightening campaign in June 2004, starting from a FF target of 1% and ending in June 2006 at 5.25%. By October 2006 the unemployment rate had fallen to a low of 4.4%. In Q3 2006, CPI also peaked, at 2.9%. Employment is a lagging indicator.
In December of 2015, when the Fed gingerly started its last hiking effort, unemployment was 5.0%.
Currently, the FF target is between 0 and 0.25%. Unemployment is 4.8%. CPI is 5.3% and PPI is 8.3% and there is lingering uncertainty over whether Friday’s data can support the start of tapering, It’s absurd.
Yields finished Friday at recent highs. The five year ended (at futures settlement) at 1.05%, (+11.5 bps on the week), tens at 1.603% (+14) and thirties at 2.162% (+12.6). It’s been three years since the last peak in rates. Below is a table showing highs and lows:
5 YEAR 10 YEAR 30 YEAR
2018 HIGH 3.09 3.24 3.45
2020 LOW 0.19 0.51 0.99
HALFWAY 1.64 1.875 2.22
5 year avg 1.62 1.97 2.48
NOW 1.05 1.60 2.16
This week features inflation data and auctions. On Wednesday, CPI is expected 5.3% with Core 4.1%. FOMC minutes also released on Wednesday. On Thursday, PPI expected 8.7% with Core 7.1%. Friday features Retail Sales, with a slight anticipated decline of -0.2%.
Auctions of $58b 3-yr notes and $38b tens on Tuesday, followed by $24b thirties on Wednesday. According to the TBAC schedule only $27 billion is maturing, so these auctions of $120b represent new funding of $93 billion. (Where’s THAT money going to come from?) The increase in yields last week might make these sales more attractive, but the severity of the negative real return highlighted by inflation data might still make buyers pause. Crude oil closed the week at its highest level since 2014, with CLX1 settling 79.35. The Bloomberg Commodity Index is at its highest level since early 2015, now 102.62.
On the week, several Eurodollar one-year calendar spreads posted new highs. The peak spread is still EDU’22/EDU’23 which encompasses the libor transition, it closed at 74, a new high for the year, up 8.5 on the week. The weakest part of the ED curve was the green pack (3rd year forward) which fell nearly 15 bps in price to an average of 98.59 or 1.41%. The red pack (2nd year forward) fell just over 11 bps to an average of 99.20 or 1.80%. On the Fed Fund curve, Jan’22/Jan’23 calendar, which captures an expected hike before the end of 2022, rose 6 on the week to 32. So there is now actually a bit more than one hike being priced. EDZ’21/EDZ’22 closed at 38, up 8.5 on the week. The most aggressive curve projecting near term hikes is Short Sterling, where Dec’21/Dec’22 closed at 70, up 10.5 on the week and up 35 in the past month. The Short Sterling Dec’21/Dec’22/Dec’23 butterfly closed 52.5, a new high, indicating front-loaded hiking. By comparison, EDZ’21/Z’22/Z’23 fly settled NEGATIVE 30.5 as rate hikes aren’t expected until tapering ends. (The near Z1/Z2 spread is 38, while Z2/Z3 is 68.5). EDZ’22/Z’23/Z’24 is POSITIVE 25 (68.5 vs 43.5).
There has NOT been panicked reaching for puts in US rate futures, but almost all other factors indicate that higher rates are in store. Another 25 bps in the ten year to 1.87% would only put us at the 50% retrace of 2018’s high to 2020’s low. Monday’s Columbus Day will probably be less liquid than usual, with the possibility of more of an auction concession being priced.
OTHER MARKET THOUGHTS/ TRADES
On Friday there was a seller of over 100k EDM2 at 99.78. The contract settled 9976.5. With total volume over 518k, this was the most heavily traded contract on the strip (13% of all ED futures volume). The next nearest contract in volume was EDZ’22 with 459k trading. Open interest in EDM2 rose 109k, so this was a new seller; total OI in dollars up 213k. 3-month libor has been anchored at 12 to 13 bps. EDM2 at 9976.5 is a rate of 23.5. Perhaps that rate could be achieved without an actual hike, if credit problems cause a libor re-set. However, even with issues permeating China’s property sector, Investment Grade CDX remains below 54 bps, well within the year’s range of 46 to 58.
The IMF’s Global Outlook is released Tuesday, sure to devote a large section to China’s current travails and to global debt to GDP levels (unsustainable).
Last week I suggested 3EH 9775p for 4.5 or 4EH 9750p for 5.0. 3EH 9775p settled 6.75 and 4EH 9750p have not yet opened, but BBG lists nominal settle at 6.75. I would currently favor blue or green midcurve puts as the curve is showing signs of bear flattening going forward.
| 10/1/2021 | 10/8/2021 | chg | ||
| UST 2Y | 26.2 | 31.6 | 5.4 | |
| UST 5Y | 93.1 | 104.7 | 11.6 | |
| UST 10Y | 146.2 | 160.3 | 14.1 | |
| UST 30Y | 203.6 | 216.2 | 12.6 | |
| GERM 2Y | -70.4 | -69.1 | 1.3 | |
| GERM 10Y | -22.4 | -15.1 | 7.3 | |
| JPN 30Y | 65.6 | 69.2 | 3.6 | |
| CHINA 10Y | 287.7 | 290.4 | 2.7 | |
| EURO$ Z1/Z2 | 29.5 | 38.0 | 8.5 | |
| EURO$ Z2/Z3 | 62.0 | 68.5 | 6.5 | |
| EURO$ Z3/Z4 | 43.5 | 43.5 | 0.0 | |
| EUR | 115.97 | 115.77 | -0.20 | |
| CRUDE (active) | 75.88 | 79.35 | 3.47 | |
| SPX | 4357.04 | 4391.34 | 34.30 | 0.8% |
| VIX | 21.15 | 18.77 | -2.38 | |
https://home.treasury.gov/system/files/221/TBACRecommendedFinancingTableQ42021-08042021.pdf
