Stocks resist economic signal from oil

Feb 10, 2020

–Crude oil (CLH0) is sub-50 this morning, having started this calendar year in the lower 60’s, yet stocks aren’t inclined to follow the economic signals of decreased demand and instead seem focused on central bank liquidity measures.  Copper (HGH0) has settled in at lower levels above 2.50, currently near 2.56 vs 2.85 early in the year.

–Here’s an outlier that’s worth mention:  Norway, whose central bank targets 2% core inflation (as most CBs do) reported a core inflation number for January of 2.9% yoy vs expected 2.0%.  Norges Bank had said its key interest rate is expected to remain on hold for the foreseeable future, but has also warned that a sustained uptick in inflation could cause tightening.  Yes, that sort of reading is unlikely in the US.  But would it fall under the “catch-up” category?

–As mentioned over the weekend, Quarles’ speech on Thursday evening suggesting that the Fed could open the discount window to allow banks to use Level 1 HQLA to meet reserve squeezes alleviated pressure on December contracts that are prone to year-end pressure.  EDU0/Z0/H1 butterfly fell 2.5 bps on Friday to 5.0.  In general, yields declined, with tens falling 6.4 bps to 1.58% as growing virus fears persist.  In eurodollars, reds through golds rose 5.5 to 6.5 bps.  Implied vol firmed on the bond rally; the fear factor is for lower rates.

–While there’s not much news today, it should be an interesting week, with Powell testifying to Congress on Tuesday, auctions of 3s, 10s and 30s also beginning Tuesday, inflation data and retail sales on Thursday and Friday.  While Quarles’ proposal is not current policy, it should, at the margin, improve domestic bank demand for treasuries.  On the other hand, the only bond that has positive carry in comparison to the IOER rate of 1.60% is the thirty year bond…

Open the Discount Window

Weekly Comment – February 9, 2020

Summer has come and passed
The innocent can never last
Wake me up when September ends
–Green Day, from the album American Idiot

The Fed is obsessed with September, specifically of course, the mid-Sept 2019 repo surge.  For example, in the Fed’s addendum ‘Monetary Policy Implementation’ which is attached to post-FOMC announcements, the language remains the same from its onset in October, into December and then January: “…the Committee directs the Desk to continue purchasing Treasury bills at least into the second quarter of 2020 to maintain over time ample reserve balances at or above the level that prevailed in early September 2019.”  The September flare-up has been mentioned in many Fed speeches since it occurred.  This brief event has been seared into the Fed’s psyche.  It reminds me of one of those action flicks where the protagonist says through the rolling credits, ‘The world will never know how close we were to a global disaster.’  The repo market is now the Fed’s line in the sand.  Or coronavirus.

On Thursday evening, Randal Quarles, the Fed’s chair of the Financial Stability Board gave a speech on the economic outlook, monetary policy and the demand for reserves.  The last topic was of particular interest, but in its entirety the speech showed that the continuous evolution of the Fed’s framework for policy now revolves around ample reserves and IOER. 

Unsurprisingly Quarles’ speech initially noted strength in the labor market, added concern about weak capex, highlighted risks associated with the coronavirus.  He said that policy is in a good place, sure to be repeated by Powell in his upcoming Congressional testimony on Tuesday.  He then moved to the size of the balance sheet.  There were a couple of interesting excerpts:

Although I fully support the FOMC’s current plan to purchase Treasury bills and increase the size of the balance sheet in the very short term, over the longer-term, I believe that the viability of balance sheet policies is enhanced if we can show that we can meaningfully shrink the size of the balance sheet relative to gross domestic product following a recession-induced balance sheet expansion. In effect, I believe that balance sheet policies are more credible if we can show that there is not a persistent ratcheting-up effect in the size of the Fed’s asset holdings.  

In my opinion, Quarles is worried that the Fed’s strong response to September in terms of expanding the balance sheet could get out of hand.  He seems to envision an ‘ebb and flow’ in the balance sheet akin to Keynes’ original thoughts about government spending, namely that it should grow when the economy is experiencing a lack of private demand and investment and should retract as growth returns to normal. [ How does that end in practice?  A constantly growing deficit and balance sheet. Here’s a Far Side cartoon that captures the thought. ‘The Fed screws up’ ]

Continuing with Quarles speech:

Following the mid-September volatility, the Committee stated that it would seek to maintain, over time, a level of bank reserves at or above the level that prevailed in early September, a level that we believe is sufficient to operate an ample-reserves regime. Looking ahead, I judge that it is reasonable that we ask ourselves whether it may be possible to operate with a lower level of reserves and remain consistent with the ample framework.

This line is important because Quarles is already leaning against the idea of a constantly ballooning balance sheet.  

The (beyond) meat of the speech is in the final section which I will summarize.  Due to the Liquidity Coverage Ratio, banks are required to hold High Quality Liquid Assets. (LCR and HQLA).  HQLA includes central bank reserves, Treasury securities and Ginnie Mae securities.  The issue, spurred by mid-Sept: “Even though the Treasury market is the most liquid in the world, in an actual stress event, banks would still need to take steps to monetize Treasury securities to meet cash outflows.” Quarles solution is summarized by this line: “…I think it is worth considering whether financial system efficacy may be improved if reserves and Treasury securities’ liquidity characteristics were regarded as more similar than they are today- that is to say, that reserves and Treasury securities were more easily substitutable in the context of liquidity buffers.”  To this end Quarles proposes use of the Fed’s discount window with Level 1 HQLA as collateral.  Remove the discount window stigma and let it become a frictionless way for banks to meet large cash outflows by using treasuries in HQLA as collateral.  This idea by the way, was brought up to me in October by friend GH who had previously been at the Boston Fed.  Again from the speech, “Such an approach could improve the efficiency of monetary policy implementation as firms might show a greater willingness to reallocate to Treasury securities, reducing reserve demand and improve market functioning.”

In short, this proposal removes the need for a standing repo facility and can be immediately implemented.  Implications are as follow, 1) as noted by WGN, a colleague at RJO, it significantly lessens the odds of an end-of-year repo blow-up, 2) it encourages banks to buy treasuries, and we all know there’s plenty for sale in the pipeline, 3) it inserts the Fed more directly but perhaps allows it to use the balance sheet as a more potent tool. On point 2, the Fed knows the supply of treasuries is growing, and there have been some discussions of the Desk extending its buying from bills into shorter coupons.  If the stigma to the discount window is removed and the Fed is keeping repo capped, then banks can buy the avalanche of treasury debt instead of the Fed directly monetizing it, (and the Fed can then monetize the banks).

On Friday, this proposed solution affected pricing by alleviating pressure on December contracts, which have traded at a discount due to year-end funding concerns.  As an example, EDU0/EDZ0/EDH1 butterfly closed Thursday at +7.5.  EDU0 settled 9849.5, Z0 9852.5 and H1 at 9863.  So Sept/Dec is -3.0 and Dec/March -10.5 while the next 3-mo spread, H1/M1, settled -2.0.   On Friday EDZ0 was the lead performer on the front end of the curve.  EDU0 9854.5 (+5.0) EDZ0 9859.0 (+6.5) EDH1 9868.5 (+5.5) and EDM1 9871.0 (+6.0).  Sept/Dec/March fly settled +5.0.  In other words, the Dec discount related to turn pressure was lessened.  Also consider EDZ0 vs FFF1, a rough proxy for libor/ois going into the end of the year.    On Friday while EDZ0 closed up  6.5, FFF1 only rose 4.5 to 9879.0.  So this spread is now just 20, having been 24.0 a week ago.  EDH0/FFJ0 was 11.5 a week ago and is now at a new low 9.5.  Credit compression; Fed to the rescue, but it’s only got one cymbal.     

OTHER MARKET/TRADE THOUGHTS

Want to see a chart that’s not particularly optimistic with respect to the impact of the Wuhan virus? Here’s China’s ten year yield.  Getting back to pre-Trump days.  Crude oil also paints a picture of slack demand, off over 20% from last year’s high and pretty much at the low of 2020. CLH0 settled 50.32.

A couple of weeks ago I suggested selling the EDH0 3-month double butterfly at 7.5.  It finally broke down to 4.0.  Again, probably a function of EDZ0 outperformance.

Last week I suggested buying some midcurve put spreads, which worked through Thursday.  However, Friday’s price action re-affirmed upside fear.  As a friend sometimes says, “You can be bearish.  Just don’t be short.”  Here’s a quick pricing example:  EDZ0 settled 9859.0 as noted above.  EDZ0 9812.5p, 46.5 otm settled 1.5.  EDZ0 9912.5c, 53.5 otm settled 6.0.  Four times the premium. 

Treasury auctions 3, 10, 30 year paper this week.  Powell begins Congressional testimony on Tuesday.  Inflation data Thursday with Retail sales Friday.  Friday’s employment report makes it pretty clear that data is not the driving factor; strong numbers were ignored and vol surged directionally with treasury prices.  It’s hard to buy 5’s 20 bps below IOER and 10’s 2 bps under.  But for now, that’s the trend.

	1/31/2020	2/7/2020	chg
UST 2Y	132.5	140.1	7.6
UST 5Y	132.1	140.3	8.2
UST 10Y	151.7	158.0	6.3
UST 30Y	200.8	204.4	3.6
GERM 2Y	-67.0	-64.3	2.7
GERM 10Y	-43.4	-38.6	4.8
JPN 30Y	36.5	39.1	2.6
EURO$ H0/H1	-41.5	-34.0	7.5
EURO$ H1/H2	-3.0	-2.5	0.5
EUR	110.97	109.46	-1.51
CRUDE (1st cont)	51.56	50.32	-1.24
SPX	3225.52	3327.71	102.19
VIX	18.84	15.47	-3.37

https://www.federalreserve.gov/monetarypolicy/files/monetary20200129a1.pdf

https://www.federalreserve.gov/newsevents/speech/quarles20200206a.htm

NFP and the Fed. So what?

Feb 7, 2020

–Payrolls today, followed by the Fed’s semi-annual report to Congress.  NFP expected 160k though benchmark revisions will take previous numbers lower.  Quarles speech last night was mostly boilerplate, judging the economy to be in a good place with notable risks going forward.  Labor markets are strong but still have some slack; capex is weak.  He noted that inflation data should begin to pick up as some low readings in early 2019 start to fall out of the data stream.  He talked about some regulatory changes to help banks cope during periods of reserve stress, but before that, there was a small section about the level of reserves in general that hints at uneasiness with the market perceiving unlimited Fed largesse:  Following the mid-September volatility, the Committee stated that it would seek to maintain, over time, a level of bank reserves at or above the level that prevailed in early September, a level that we believe is sufficient to operate an ample-reserves regime. Looking ahead, I judge that it is reasonable that we ask ourselves whether it may be possible to operate with a lower level of reserves and remain consistent with the ample framework.

–The latest ADG notes that “global junk bond issuance registered at $73.6 billion in Jan, the highest monthly total in 25 years” as junk yield spreads and absolute levels remain exceptionally low.

–It was a low-key day yesterday with little change across the interest rate curve.  In spite of NFP and the Fed’s monetary report, events that once upon a time caused large market reactions, implied vol is under a blanket, with a sharp decline from peak [so far] virus fears, as shown in the TY vol chart below.  NFP expected 160k.  Fed report at 10:00 EST.  

–The Federal Reserve’s calendar finally shows that Powell will indeed testify in front of Congress on Tuesday.

Vol smothered as rates rebound

February 6, 2020

–Once again yields moved higher as stocks continued their ascent.  Tens added 4.4 bps to 1.647%.  The curve steepened with twos up only 2.4 bps; 2/10 is back above 20 at 20.8 and 5/30 ended 67.7, also up 2 bps.  China cut tariffs and Trump was acquitted on impeachment charges.  It’s been a bad week for Nancy.

–ADP was significantly stronger than expected at 291k.  Service ISM firm at 55.5. Today we receive productivity data with the Fed’s Quarles giving a speech on the economic outlook tonight.  Payrolls tomorrow and the Fed releases semi-annual testimony.  There is still nothing on the Fed’s calendar to indicate that Powell is speaking before Congress, however the House Financial Services Committee website says “the full committee will convene for a hearing on Monetary Policy and the State of the Economy.” on Tuesday, Feb 11.   Sounds boring already but it would probably be a little less so if Powell were there. 

https://financialservices.house.gov/news/documentsingle.aspx?DocumentID=406099

–Vol has been smothered as rates have retraced higher.  EDU0 9850 straddle settled 26.5, having been 30 two days ago. On Tuesday’s open the TYJ atm straddle was 1’49 (131 strike) while yesterday the atm 130.5^ settled 1’39.  

–The virus numbers seem to have faded in importance in the past few days, but it wouldn’t be surprising to see a significant global spread in the next few days which will re-focus the market.  The dollar index is moving higher, and was at its best level since the end of November yesterday. 

Stocks ripped higher

February 5, 2020

 –Stocks soared and yields rose yesterday, but implied vol in rates was hammered.  Ten year yield was up 8.4 bps to 1.603%.  On the euro$ strip reds through golds down 8 to 9 bps.  The curve steepened slightly as twos only fell 6.4 bps; 2/10 spread up 2 bps to just under 19.  2/5 closed just above zero after having been inverted.  TYH atm straddle in April went from 1’53 to 1’44 (131 line).  EDU0 fell 7.5 bps on the day to 9852, the 9850 straddle went from 30 to 27.  Most ED straddle lost 2-2.5 bps.  

–Stock futures continue to press new highs as an unconfirmed report of a promising drug to treat coronavirus circulated in the Chinese press.  Perhaps the State of the Union speech outlining the administrations’ achievements is a contributing factor. TSLA had an incredible surge, with some comparing the move to the famous VW squeeze ( @ECantoni) see chart below.

–ADP and Service ISM today.  

–The Fed’s semi-annual report to Congress is scheduled to be released on Friday.  I did not see anything on the calendar about Powell speaking, so I called the Fed.  They said it’s actually up to the Congressional committees to invite the Chair, and they have not yet put it on the calendars.  Maybe the calendar was on the last page of the papers Pelosi was shuffling around last night. I suppose Quarles’ speech Thursday evening on the state of the economy will take on added importance.  

Optimism

February 4, 2020

–“Markets rally on virus optimism as the infection spreads.” (from Sven Henrich on twitter).  As good an explanation as any I suppose.  Despite an immediate $70 drop in Alphabet yesterday post-results, stocks are higher this morning.  Bloomberg (the winner of the Iowa caucuses) reports this morning that Kuroda says the BoJ “…won’t hesitate to take action to cope with the virus’s economic impact if necessary.”  Thanks for the reminder, but markets have already been convinced that central bankers will fight any and all threats through the greased levers of monetary policy.  

–However, US rate futures are pulling back, and are currently below yesterday’s dip associated with Mfg ISM yesterday morning, which was expected sub-50 and came out 50.9. For example, EDH21 low yesterday was 9870.5 on the data, and this morning low 9867.5. Yields ended slightly higher yesterday, with tens ending nearly unch’d at 1.518% while the two year rose 2.6 to 1.351%.  White and red packs were weakest on the dollar curve, both closing -2.25.  Red to green pack spread edged to a new recent low of 1.875.  2/5 treasury spread is already inverted, having closed -0.8 bp yesterday.  

–TSLA nearly hit 800 yesterday.  I am using the run-up in bitcoin in the last two quarters of 2017 as a template.  On July 2, 2017 BTC was around 2500 and by the middle of December hit 20000.  In September, TSLA was around 250.  By the middle of March should we target 2000?

–Factory Orders today.  Upcoming news includes Service ISM tomorrow along with the Treasury Refunding announcement, a Thursday evening Quarles speech on the outlook for the economy, NFP and the Fed’s semi-annual report on Friday.

China re-opens; markets muted

February 3, 2020

–China re-opened financial markets and announced significant financial support, but major averages were down 7.7 to 7.9%.  Reaction across US markets has been muted, with stock futures up a bit, treasuries flat to slightly lower, gold down a few dollars.  Hong Kong has closed all land border crossings to the mainland.  On Friday the US declared coronavirus a health emergency.  Nothing to do with the virus, but India also announced a $40 billion fiscal stimulus to support a slowing economy.

–Yields fell Friday, with short maturities leading the way. The 2yr note fell 6.2 to 1.325%, fives -5.6 to 1.321%, tens 3.8 to 1.517% and 30’s 1.6 to 2.008%.  Tens are about 15 bps from all-time lows, while bonds are only 6 away.  In dollars, EDM0 and EDU0 were +6.0 with gains gently tapering off from there.  Though the change in calendar spreads wasn’t particularly dramatic, the curve is moving the timetable for a possible ease forward.  EDH0/EDM0 settled -26.0, indicating that the market expects at least one ease over that six-month window.  The peak contract on the euro$ curve is EDU21, the third red, at 9882.5.  In early Sept of last year the peak contract hit 9894.5.

–Today ISM mfg is released, expected 48.5 from 47.2 last.  Data probably isn’t quite as important unless it confirms that a US slowdown was in place prior to the health scare.  

A few notes on levels

February 2, 2020 – Weekly comment

The five year yield fell 18 bps this week, while tens fell 16. On the euro$ curve, the biggest week-to-week changes were in EDU21 through EDM22, all up 19.5 bps (last two reds, first two greens).  On a two week change, from Friday, January 17, the 2-yr fell 24 bps, 5-yr 31, 10-yr 32 and 30-yr 29.  The two-week changes for the leading euro$ contracts, EDM22 and EDU22 (middle two greens) were even more dramatic, both up 36.5 bps in price.

Low yields in fives and tens were made in mid-2016, at 94 and 137 bps, but of course that’s when the Fed effective rate was between 37 and 40 bps.  At the end of August last year, the 30-yr bond made a new low at 1.95%, fives reached 1.32% and tens 1.47%.  So, currently, fives at 1.321% are 38 bps higher than the low in 2016, tens at 1.517% are 15 bps off the low in 2016 and just 5 higher than last year’s low, while 30’s are 6 bps higher than all-time lows.  The new IOER rate of 1.60% is above the entire treasury curve except 30’s which are only 40 bps higher.

		1/17/2020	1/24/2020	1/31/2020		2wk chg
	2-YR	156.2	147.7	132.5		-23.7
	5-YR	162.9	150.2	132.1		-30.8
	10-YR	183.4	167.9	151.7		-31.7
	30-YR	229.4	212.8	200.8		-28.6
	EDH20	98.255	98.290	98.360		10.5
	EDH21	98.465	98.600	98.775		31.0
	EDH22	98.445	98.610	98.805		36.0
	EDH23	98.360	98.535	98.720		36.0

The interest rate option markets have been leaning heavily toward the idea of continued ease, and the last couple of coronavirus-inspired weeks have further accentuated that pricing.  In terms of timing, we can take our cues from short term curves.  There are FOMC meetings March 18, April 29, June 10 and July 29.  February FF settled Friday at 98.41 or 1.59%, essentially at the new IOER.  The first contract that indicates ‘certainty’ of an ease is FFQ20 at 98.68, 27 bps above Feb.  This sort of timing is corroborated by EDH0/EDU0 spread, which had been around -11 in the beginning of the year, but settled Friday -26.0. 

One-year calendars are as follow: FFG20/FFG21 is -52.0 and EDH20/EDH21 is -41.5.  Both are pointing to 50 bps of ease over the coming year.  The difference between the spreads is due to the next FOMC on March 18, which has no chance to impact FFG20 but can, of course, impact EDH20.   The peak contract on the ED curve is currently EDU21 at 98.825 or 1.175%, which is consistent with a Fed Effective of around 1% vs the 1.50/1.75% target range currently. This contract is in the 7^th quarterly slot.  The high settles were made at 98.945 on September 4^th of last year, at that time the 8^th quarterly contract.

The rally in FI has been dazzling, driven primarily by safety concerns.  In a two-week period the market has eased for the Fed.  What’s not clear is whether easing can mitigate the effects of the virus. 

In 2001, after 9/11 had grounded US air travel for a few days, the Federal Gov’t rushed to pass a bill to provide financial assistance to the airlines, “$5 billion in direct aid and $10 billion in loan guarantees.” Here’s a quote from the same CNN article of Sept 23, 2001, “Why am I up here supporting this bill? Because I think we are in a new era… where every one of us has to give a little bit.” Charles Schumer D-NY.  In the current era of highly levered corporations and a rancorous political environment, if things really do downhill, it will again leave the Fed as last resort.  There’s not likely to be bipartisan support for what may become necessary ‘bailouts’.  

The US economic prognosticators appear to place strong confidence in the US consumer, as capex has been weak.  From the FOMC statement: “Although household spending has been rising at a moderate pace, business fixed investment and exports remain weak.”  Certainly the consumer and the federal gov’t have been the biggest props for the economy.  This week the Treasury releases Q1 financing estimates on Monday and the refunding statement on Wednesday.  It seems likely to me that gov’t spending is about to worsen rather than improve given the virus.  And by “worsen” I mean that deficit spending will kick into even higher gear.  Corporate supply-chains are already being heavily impacted and the movement of goods and people are likely to become further curtailed. 

While actual activity might slow, it’s not clear that prices will come down.  In fact, this pandemic could lead to rising prices as the costs of new safety measures are passed to the consumer, and the cheapest, most efficient supply chains are replaced, (at least temporarily) by more expensive alternatives.

Obviously I have no insight as to the spread of the Wuhan virus.  What I do know (or at least think I know) is that markets tend to follow technical signals a lot more closely during periods of greater uncertainty.  That means that trendlines which are tested are likely to hold the first time, that retracement levels and old highs and lows take on increased importance. 

Gains in rate contracts from here should be more difficult to come by as the safety seekers have probably already piled in.  Pricing, as noted above, is already fairly aggressive with respect to future Fed policy.  There is plenty of news out this week, though it’s likely to be of less importance than usual unless particularly weak.  The Fed’s Quarles gives a speech on the economic outlook on Thursday.  The Employment report is Friday, followed by the Fed’s semi-annual report to Congress.  Iowa caucuses tomorrow evening.

OTHER MARKET/TRADE THOUGHTS

Two weeks ago I compared the late 2017 into January of 2018 SPX rally (associated with the tax package) to the current market, which has also posted a similar percentage magnitude rally essentially beginning with the Fed’s $60/billion per month t-bill purchases.  I noted that in 2018, the top was on Jan 26 and a sharp pullback ensued, along with a spike in VIX that blew up a few funds.  This year, I thought there was a chance the Jan 29 FOMC meeting might provide an excuse to turn the market lower, as I thought the Fed might signal that eventual removal of liquidity would be more appropriate in the future as asset prices appear stretched.  As it turns out, the high close in January in SPX was the 23^rd, and the virus is the dominant factor.  However, it’s worth noting that in 2018, SPX fell around 11.8% from late Jan to early February.  Additionally, an 11.8% pullback from the high in Jan would put SPX around 2990 vs the current 3225.  I am not forecasting that level, just tucking it into my memory.  I actually think that late July and September highs last year of just above 3000 will provide great support; I look at the 2950 to 3050 area as a strong buy zone.

In Eurodollars there are hefty longs IN EDU0 9875 and 9887 calls, with open interest in those strikes of 451k and 442k.  Last week showed no signs of exits, settled 12.0 and 9.0 ref 9862.0 in EDU0.  The 9900c settled 6.5.  Tempted to outright sell these calls.  THIS IS NOT A RECOMMENDATION

	1/24/2020	1/31/2020	chg
UST 2Y	147.7	132.5	-15.2
UST 5Y	150.2	132.1	-18.1
UST 10Y	167.9	151.7	-16.2
UST 30Y	212.8	200.8	-12.0
GERM 2Y	-61.1	-67.0	-5.9
GERM 10Y	-33.5	-43.4	-9.9
JPN 30Y	40.3	36.5	-3.8
EURO$ H0/H1	-31.0	-41.5	-10.5
EURO$ H1/H2	-1.0	-3.0	-2.0
EUR	110.26	110.97	0.71
CRUDE (1st cont)	54.19	51.56	-2.63
SPX	3295.47	3225.52	-69.95
VIX	14.56	18.84	4.28

https://edition.cnn.com/2001/US/09/22/rec.airline.deal/

Markets at work

January 31, 2020

–This is how markets work.  High prices bring out ingenuity and supply.  The cure for high prices is high prices.  Andy Totman shared this story with me yesterday about his son, who lives near Wicker park in Chicago.  The lad went out to start his car and it sounded like a tank, so he looked underneath and discovered his catalytic converter had been sawed off, thus contributing to the supply of a metal in high demand.  The observant will note that palladium has indeed pulled back, from about $2400 to $2250.  Buy a Sawz-all.  Sell palladium.

–Once again yields made new lows with tens marked at 1.555% at the time of futures settlement.  However, blockbuster results from AMZN popped Nasdaq and helped tens pop back to 1.59% ref 131-005 in TYH0, which had settled 131-10.

–Vol remains directionally bid and euro$ straddles were up 1-1.5 bps as near calendars again made new recent lows.  There was a buyer of about 10k red pack 100c strip for 6.0 bps.  Underling contracts are EDH1, M1, U1 and Z1, the call settle prices were 0.75, 1.25, 1.75 and 2.50 so 6.25 settle.  The futures settles were 98.725, 75.0, 77.0 and 74.0, so about 125 bps away from the 0% strike, beginning a bit over one year forward.  In terms of calendars, as noted EDH1 settled 98.725 while front EDH0 settled 98.315, so the one-yr calendar fell another 2.5 bps to -41.5; moving a bit closer to the idea of 2 eases.

–Part of yesterday’s rally in rate futures (reds thru golds +4.5 to 5.0 bps) was early weakness in stocks, but the GDP Price deflator was soft at just 1.4% vs expected 1.8%.  We’ll see more on prices with today’s Core PCE expected 1.6% vs 1.5 last.  

–Personal consumption component of GDP was also tepid at 1.8%.  There’s widespread acknowledgement of weak capex (and the oil rout certainly doesn’t help on that score) and equally widespread confidence in the strength of US consumer to carry the day.  Then why did JPM just cut hundreds of jobs from its consumer division?  Also released today is Chicago PMI, expected 49.0 vs 48.9, bolstered by trade in, um… ‘scrap metals’.  In Q3 2018, Chgo PMI was as high as 66.5, but has since trended straight down to the Oct 31 low of 44.3.

–At the end of the day 4 US companies sported Trillion Dollar market caps: MSFT, AAPL, GOOGL, AMZN….MAGA.  Also referred to as cuarto comas.

The Fed can’t cure the virus

January 30, 2020

–Yields continued to fall yesterday right through Powell’s press conference, with tens shaving 5 bps to 1.592% (at futures settlement).  The Fed raised IOER 5 bps to 1.60% (so it now just eclipses the 10y yield), and directed the desk to continue buying bills at least into Q2.  The Fed’s implementation statement continues to specifically reference  the reserve level from September, an implicit guarantee to the market that it won’t let the repo surge occur again.  At the same time, the CBO projects a trillion dollar deficit this year and beyond.  The bonds issued because of those deficits will need to be bought and financed.  With REPO.  In a logical extension that means the Fed will need to buy more… and more. Interestingly, stocks fell as the press conference was taking place, and are lower this morning as FB results swamped the ‘feel-good’ TSLA report.  Of course, the Wuhan virus is spreading and impeding movement of people, goods and services, an overarching threat to economic activity, as reflected by the continuing plunge in copper (off 12% in two weeks).  

–In the short end, near eurodollar calendars are making new lows.  The lowest one-year calendar is the front EDH0/EDH1 which fell 5 bps yesterday to -38.5.  FFF0/FFF1 was down 4.5 to -36.25.  Earlier in the month, until a week ago, these spreads had been holding around -20 to -25.  That is, the market was leaning toward the possibility of one Fed ease of 25 bps in 2020.  Now the market is perceiving one and a half, or certainty of one ease and 50/50 for another.   Reds through golds (2nd year to fifth year forward) all rallied 5 to 5.5 bps, so not much change in deferred calendar spreads.  Red/gold pack spread settled 20.375 while 2/10 edged to a new low of 17.3.  

–There are indications that uncertainty surrounding impeachment will end Friday as the Senate acquits, but if the trial continues, it’s likely another risk for stocks.  

–There has been a bit more mention of ‘fifty-cent’, the large buyer of otm VIX calls.  Large open positions are in the following strikes: Feb 22 calls which expire 19-Feb were trading 0.65 late and have a whopping 333k of open interest.  March options expire 18-Mar, and 25c are around 0.65 with 161k, while 28c are 0.45 and have 212k.  Spot VIX was 17.6 at the end of the day.   

• ABOUT:
  Former member of the CME specializing in interest rate options and yield curve strategies.