July 21. Pressure on front end of Eurodollar Futures curve

–Front end of the eurodollar market remains under pressure, with EDZ6 settling at 9913.5, versus a brexit high of 9938.5 and a close that day of 9930.5.  While some suggest that this pressure is due to the prospect of Fed hiking, there is obviously more at work.  I have been watching Aug/Oct FF spread as an indicator of tightening expectations for a Sept FOMC hike.  This spread settled 4.5 yesterday, in a 4.5/5.0 market.  5 bps would indicate odds of 20% for a hike at the Sept FOMC.  However, in looking back at this spread, it settled at 6.0 on June 20 and June 23.  On those dates, EDU6 settled 9926.0.  Now, with the spread at 4.5/5.0, EDU6 settled 9921.5.  So, there is more to it than simple tightening expectations.  Part of the move is related to new money market regulations taking place October 14,   For institutional accounts, non-gov’t money market funds will have a Floating NAV, meaning the funds can break the buck.  There are also rules for gating and fees associated with redemptions in the event of runs.  Some accounts have already shifted to government security MM funds, which don’t face the same restrictions. Over the short term, this is adding a liquidity premium to short term funding markets, especially those that go over the mid-Oct regulatory date.  It has also been helping to widen spreads between gov’t securities and swaps.  Yesterday, 3m Libor set just above 70 bps.  The Fed effective rate has been 40 bps all month.  Given a settlement in January 2017 FF at 9948.5, there is now about a 50% chance of one hike through the remainder of 2016.
–Japan announced a 20 T yen stimulus program, double what was expected.  The Nikkei is up, but less than 1%.  For the past six months the Nikkei has been between 15000 and 17500, and is now 16810, and it’s still lower on the year.

–News in the US today includes Chgo Fed Nat’l Activity, expected -0.2.  Philly Fed 4.5 from 4.7 last.  Existing Home Sales 5.48m and LEI +0.2.

Posted on July 21, 2016 at 5:27 am by alexmanzara · Permalink
In: Eurodollar Options

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