DEC 4. EDZ9 starts and ends the year with action

–Interesting price action.  Stocks rallied as if the economic malaise associated with a trade war had lifted, while the back end of the eurodollar curve flattened to new lows as if an economic deep freeze is right around the corner.  Two charts below: the top is 2/10 which cratered by 5 bps yesterday (as of the 2 pm close it was down 4.2 to 15.9, the chart below shows 14.9).  Below that is the first red to the first green on a rolling basis.  Currently this is EDZ9/EDZ0 which further inverted to a new low of -5.0, down another 2.5 on the day.  I’ve taken these charts back to 2004 to cover the last hiking cycle of 2004-06.  The lowest low in ED5/ED9 at that time was -12.5 (so we’re 7.5 away) and in 2/10 the low was around -20.
–Tens fell in yield 2 bps yesterday to 2.99%, but we were another 2 lower going into the 5pm electronic close.  This morning rate futures are holding gains and stocks are softening, as warm feelings about the China/US deal dissipate (A RTRS headline says US wants immediate action from China).
–Other notes, the French gov’t is suspending the ‘eco-fuel’ tax that put the energy in protests (but those still probably aren’t over).  And Weidmann says the ECB shouldn’t waste any time in ‘normalizing’.  This, as the German bund sinks below its support at 30 bps, and DB reverses yesterday’s gain.  Normal.
–A LOT of talk yesterday about weakness in EDZ9 contract in particular and all December contracts in general.  EDZ9 contract is once again the cheapest on the board.  (Example, from 6m flies: H9/U9/H0 is 9.5, M9/Z9/M0 is 15.0 and U9/H0/U0 is 8.5).  The contract with max open interest is EDZ9 at 2.035m.  EDZ8 has 1.561m and Z0 1.224m.  Yesterday there was an absolute crush of EDZ9/Z0 which closed at a new low of  -5 as indicated above.  Open interest was up in both contracts, +32k and +34k so positions appear new as we slide into an illiquid time of year.
–At the start of this year, on Jan 5, the big EDZ9 open interest was kicked off with a monster sale of 125k Z8/9/0 flies at 14.5 to 15.0, then an extreme level.  It has never really subsided. Z8/Z9/Z0 yesterday closed at 29.5.  I re-post a note below the charts that I wrote in late Jan.  More to say on this later, but for now it feels like something could ‘break’ on the ED curve.

I wrote this note on Jan 19, 2018, at the start of the year:

On Jan 2, 2018, Aggregate Open Interest in Euro$’s was 12,745,080.   On Friday, it was 14,187,223, so that’s an increase of 11%.  Obviously, as yields have risen, the demand for hedging has increased substantially.  A particularly large change has been in EDZ19 contract.  As shown on the chart below, open interest in that contract alone has surged from around 1m at the end of the year, to over 1.5 million now.  This accounts for over 1/3 of the total rise in open interest.

On 5-January, about 125k EDZ8/Z9/Z0 butterflies were sold at 15 to 14.5.  That was obviously a new position, a sale against the high settle of 16.5 in the fly (16.5 settle on 4-Jan).  Since that time there has been heavy trade in many ED one-year calendar spreads, but especially in EDZ18/EDZ19.  I had heard speculation that the butterfly short was covering the front spread (buying back EDZ8/9), but given the open interest increase, it appears more likely that there are several large players on opposite sides of the market.  In one of my old technical analysis classes, I was taught that the increase in open interest in a given contract was viewed as “tinder” for the next big move; i.e. someone loses the battle and needs to exit.  From the recent rise in rates, it appears that the shorts have the upper hand.

Posted on December 4, 2018 at 5:14 am by alexmanzara · Permalink
In: Eurodollar Options

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