May 24. Fed flattens curve

–The market continues to flatten as hawkish rhetoric convinces the market that 1) the Fed is serious about tightening and 2) that a tightening campaign will slow the economy.  Red/gold pack spread again flattened to a new low of just 59 bps, down 3 on the day.  2/10 closed at a new low as well at 94.  5/30 spread is hanging right around 125 bps, the midpoint of the coiling range of the past year and a half.  Market Mfg PMI was a bit lower than expected at 50.5 vs 51 expected.  Today’s news includes the Richmond Fed mfg index, New Home Sales expected 523k vs 511k last, and the 2yr auction.

–Business Insider cites research from MS saying that conditions supporting EM are unwinding.  For example, the Fed is hawkish, the dollar is turning higher, commodities outside of oil are softening, China is weakening .  Note that copper has been falling even as oil has trended higher; same with the Mexican peso.  However, US equities continue to find support in Asian hours, apparently related to a bid for safety.

–There continues to be accumulation of TYN 132c which yesterday settled 8 with 12 delta.  Open interest is now 72k, the most of any July call.  I would note that July treasury options expire June 24, the day after the Brexit vote. These purchases may or may not be related to Brexit (which is less likely according to experts), but make some sense as an insurance policy.

–On the other hand, if one is becoming convinced the US economy is on firm footing and that rate hikes might even be stimulative (companies may get off the fence and invest in capex etc), then there are many trades to capture that scenario.  Implied vol is soft with atm green June midcurve straddle at just 14.5 bps and July at 27.  These are both the 9862.5 strike, so on the put side there is the additional kicker of the curve being super flat with reds/greens at just 22 bps.  On a pure futures spread, EDH18/EDH19 closed at a new low of just 19.5 bps.  The back part of the curve is telling us that Fed hiking will backfire, but it’s not necessarily the right view.  I tend to trust the market’s signal, but these spreads are fairly low risk buys.

Posted on May 24, 2016 at 5:34 am by alexmanzara · Permalink
In: Eurodollar Options

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