June 5. Under water


This is one of my favorite shots of Ali, posing underwater in a pool.  And, it’s pretty easy to tie into the commentary as it was widely reported that $10 trillion of sovereign bonds are yielding negative rates.  Cement shoes.  As a comparison, global GDP in 2014 was reported at $78 trillion.

After Friday’s employment report yields plunged.  The German ten year yields just 6.8 bps, a new low.  In April of 2015, the bund was yielding a bp or two higher, and Bill Gross tweeted this:

Gross: German 10yr Bunds = The short of a lifetime. Better than the pound in 1993. Only question is Timing / ECB QE   9:17 AM – 21 Apr 2015

A good call, also articulated by Gundlach.  But no one seems to be saying that this time around.  The EUR rally is likely to make things more difficult in the Eurozone.  For example, the FTSE All Italia bank shares index has been cut in half from last year’s high. (Chart below).  The Italian 2-yr yield is also underwater with a negative yield.

ftse alitalia banks


And of course, yen strength is problematic for the Japanese economy.  Now, attention shifts to Yellen’s speech on Monday.  The market had already dismissed June for the timing of the 2016 hike, but after Friday, even July’s odds were significantly cut.  The July/August Fed Fund spread went from 10.5 Thursday to just 6 on Friday.  If there were certainty of a hike the spread would go to 21 or 21.5.  At 6 bps the spread is indicative of 28%, from nearly 50/50 before NFP. While one-yr Eurodollar calendar spreads didn’t make new lows, they are all clustered around 25 bps.  For example EDU6/U7 fell 6.5 bps on the week to 26, signifying just one hike over a year.

After the data, Loretta Mester didn’t retreat from her rate hike stance, saying, “The timing of actually when the rate hikes would occur and the slope of that gradual path is data-dependent.”  More importantly Lael Brainard advised caution, and noted that the labor market appears to have slowed.  (Corroborated by non-mfg ISM employment component which was a dismal 49.7). While Brainard had recently been overruled on her dovish outlook, her view is likely to carry weight with Yellen. With regard to the Fed’s other mandate, she said this: “…although some signs point to a firming of inflation going forward, I view the persistently low level of inflation during the recovery together with some signs of a deterioration in inflation expectations as suggesting that the risks to the return of inflation to our 2 percent target over the medium term are weighted to the downside.”  On the positive side, she noted a pick-up in consumption, and pointed to an increase in auto sales.

I would like to expand a bit on the latter point.  It’s been well reported that leases are taking a bigger share of auto sales, and that loan maturities have lengthened.  From JPM’s Jamie Dimon last week, “Auto is clearly a little stretched, in my opinion.  …Someone is going to get hurt. … We don’t do much of that.”   According to the Fed’s Consumer Credit report, Auto Loans are $1.05T. (As a comparison, student debt is $1.35T.  The difference is that the market expects repayment on auto debt).  Clearly, auto sales have been supported by loose standards.  And, in my opinion, the following story from BBG is accentuating this “positive” sign of consumer spending.  “In a deal led by Goldman Sachs, Xchange [Uber’s finance arm] received a $1 billion credit facility to fund new car leases, according to a person familiar with the matter. The deal will help Uber grow its U.S. subprime auto leasing business and it will give many of the world’s biggest financial institutions exposure to the company’s auto leases.  The credit facility is basically a line of credit that Xchange can use to lease out cars to Uber drivers. …Xchange caters to people who have been rejected by other lenders.”  I’m not passing judgment on the merits of this deal, just noting that it juices auto sales to unsustainable levels.   I’m sure the Fed knows this.

One other piece of data which came out Friday was Internat’l Trade (-$37.4b).  It has also been widely reported that global trade has been slowing.  I would just like to quickly note that both US exports and imports are down around 8% from their highs in 2014.  From the standpoint of getting away from the zero percent bound, the Fed missed the boat.


Back to Friday.  Last week I noted some prices from late Friday following Yellen’s remarks giving the ‘all-clear’ for a hike.  The table below shows same, noting the large week over week moves:

27-May settle (early settle) 9916.50 9884.00 9860.00
27-May late, post Yellen 9913.00 9878.50 9854.50
3-June settle, post weak NFP 9923.50 9897.50 9876.00
Change Friday low to Friday settle>>> 10.5 19.0 21.5


Posted on June 5, 2016 at 12:22 pm by alexmanzara · Permalink
In: Eurodollar Options

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