Real yields deeply negative
July 15, 2021
–Powell remains all-in to bring employment level to “full”. He noted in testimony that official data underestimate unemployment. The dual mandate of low inflation and full employment with a backdrop of financial stability has been replaced by one goal, based on data that the Fed Chairman calls faulty. PPI yoy of 7.3% was ignored. There is a price-insensitive buyer of the long end, bringing the thirty year yield below its level before Tuesday’s auction. The auction yield was 2%; just prior the yield was 1.98% and yesterday at futures close it was 1.987, down 4.6 on the day and lower yet this morning, as China’s Q2 numbers were soft. I would put full employment in the 4 to 4.5% range, but I think the Chairman is shooting for 3.5. Full throttle accommodation will surely get push-back at the next FOMC, but that’s still two weeks away!
–On Tuesday there was a large seller of TYU 132.5/134.5 strangle at 49, which settled at 54 as bonds slid post-auction. However, vol was hit yesterday as higher yields were rejected, with the strangle settling 46 vs TYU settled very near the exact midpoint at 133-145. TYU vol at 4.0, the low end of the recent range. Prior to Powell, there was a buyer of 20k TYU 133/132p 1×2 for -1 to flat. Settled flat (36 and 18). Flows suggest a lull in activity for the next month and a half.
–As expected, Bank of Canada trimmed bond buying to C$2 billion per week. BA’s rallied. There was a new buyer of 50k EDM2 9975.5 which is where the contract settled, +3 on the day. If libor stays about where it is, just under 13 bps, then EDM2 should rally approx 1 bp per month. Gold is getting a boost, with GCQ 1833, having bounced about $70/oz from the low at the end of last month. I have attached a chart of the US ten-yr inflation indexed note yield, which closed below negative 100 bps for the first time since February. The St Louis Fed website has the low at -108 last year, though I recall seeing -112 last summer.
In: Eurodollar Options
Tis but a scratch
July 14, 2021
–CPI yesterday was 5.4% with Core 4.5%, both much higher than expected, but an initial sell-off in rate futures was met with buyers, with US and WN almost immediately trading positive on the day. The weakest contract on the board was EDZ’23, which settled -8 at a price of 9891 or 1.09% (as compared to EDZ’21 at 9980 or 20 bps, and EDZ’22 at 9947.5 or 52.5 bps). Right after the data, there were two 20k block sales in EDZ’23 down to 9891; open interest rose 44.5k, so these sales appear to be new shorts. Worth a note that NFIB small business optimism was also stronger than expected at 102.5.
–The thirty year bond auction gave an indication that low treasury yields could cause a buyers strike. Just prior to auction the yield was 1.976%, but it went off at 2.00% and subsequent activity brought a close of 2.033 (at futures settlement), up 3.9 bps on the day. Earlier, there had been a new seller of at least 20k TYU 132.5/134.5 strangles at 49. As futures sold off in the latter half of the session, the late market was 52/54 with a settle of 54 vs 132-315. It’s a continuous struggle between complacency related to the idea that inflation is transitory (as used car prices comprised a big part of the CPI jump) and lingering concerns that perhaps things have fundamentally changed and accepting hugely negative real yields isn’t a viable investment strategy for anyone except the central bank. Reuters notes in a headline that “inflation has likely peaked”, and Powell’s testimony today on Capitol Hill will surely repeat that theme. On the other hand, Bullard worried yesterday that housing has been overly stimulated by the Fed’s easy policies.
–Beige Book today will be overshadowed by Powell’s comments, but it’s worth noting that the next FOMC is just two weeks away. Today also brings PPI, expected at a blistering 6.7% yoy with Core +5.1%. And of course, more government help is on the way, with Senate Dems agreeing to $3.5 trillion budget reconciliation bill.
In: Eurodollar Options
Paper claims
July 13, 2021
–New high SPX and Nasdaq on a light volume day. Yields edged slightly higher with tens ending at 1.363%. CPI today expected +0.5 month/month and 4.9% year over year. Core expected 4.0% from 3.8 last. Yesterday the NY Fed released consumer expectations of inflation at 4.8%, up from 4.0% at the last survey. All of which points to solid demand at today’s 30 year auction which was sporting a w/i yield of NEARLY 2% yesterday afternoon. Why does the market accept a negative real return of a few percent on long treasuries? Because of the Fed backstop. Perhaps Powell will have a different take on it as he gives semi-annual Congressional testimony tomorrow.
–As a preview to tomorrow’s congressional questioning: There’s an amusing op-ed rant in the Guardian by someone named Hamilton Nolan that addresses the wealth gap in the US. He sets his piece up by focusing on the Sun Valley conference. “Here, America’s wealthiest mega-billionaires gather with the chief executives of America’s most powerful companies, the director of the CIA, and America’s most worthless pseudo-journalists (hello, Anderson Cooper) to develop the social and business connections that allow the top 0.00001% of earners to continue to accumulate a share of our nation’s wealth that already exceeds the famously cartoonish inequality of the Gilded Age of Rockefeller and Carnegie.” Not a single mention of the contribution of the Fed’s and the Biden administration’s stimulus measures that have turbo-powered stocks and real estate. Mr. Nolan’s solution? Put them in jail. Quite thoughtful.
–A friend posted a tweet yesterday from LeoNidasThisISSparta (I could not find the original tweet) who said he took 1 silver contract into expiration and was promised delivery June 15th, delayed to June 22, then pushed back to June 29, then to July 1. They (I suppose he means the exchange) continually offered to cash-settle, which he finally accepted. His conclusion, “I bet no one is actually getting silver delivered.” I have a suspicion that the physical commodity, no matter what it is, is likely to become much more sought after than the derivative. I’ll be keeping an eye on Dec soybean oil, now near 64 vs a high of 66.67 in June.
In: Eurodollar Options
Bond yield rebounding slightly this a.m.
July 9, 2021
–Yields continued to fall yesterday with tens down 3.2 bps at futures settlement to 1.289%. Fives were the leader, falling 4.5 to a yield of just 73.7 bps. On the euro$ curve greens (3rd year) were the strongest, closing +8.0. However, the curve steepened quite a bit from there, with golds (5th year) up only 3.375. 2/10 notched a marginal new low at 110.
–Three month libor neared the all-time record low, setting at 11.9 bps yesterday. The BBG bank funding index BSBY set at 10.098 bps; the spread of 1.8 is quite narrow compared to what it has been (more like 4 to 5 bps) suggesting that libor has a good chance to rebound higher.
–Though there has been significant position liquidation in euro$ puts, there is some buying shifting to March midcurves: 2EH 9825p settle 6.0, buyer of 12k, and 3EH 9800p settled 9.75, buyer of 20k for 9.5 yesterday.
–A couple of related, or perhaps not, pieces of news yesterday. Wells Fargo is closing all existing Personal Lines of Credit, apparently related to previous transgressions. (Could it also mean that the end of rent moratoriums are going to lead to bankruptcies?) Also, Consumer Credit was released for May, and it showed a whopping $35 billion increase, $9b in credit cards and $26b in non-revolving autos and student debt, the latter category being up at a 9.5% annual rate. I suppose if I had the chance, I would tap the student loan pool, as the new administration will be ever more tempted to forgive it all (it’s for the children). The auto loans probably can’t last at the same blistering pace. People are starting to return slowly to public transit. The end of WFH is showing up in things like shelter dogs being returned to shelters. JOLTS data shows a remarkable amount of job openings, just one more piece of data that doesn’t quite square with the stunning bond rally of late.–Reuters reports that China cut its RRR (reserve requirement ratio). “…releasing around 1 trillion yuan in long term liquidity to help underpin an economic recovery that is starting to lose momentum.” They said it will help small firms deal with the impact of the surprising rise in commodity markets.
In: Eurodollar Options
Stocks reversing
July 8, 2021
–Stocks in a sharp reversal this morning with ES -56, Nasdaq -190 and RTY -38. Interest rate futures continue to rally after yesterday’s 4.7 bp drop in tens to 1.32%. New low once again in 2/10 which fell just over 4 bps to 110.7. Whether sparked by China’s continued clampdown on big tech and hints of rate cuts, or renewed covid fears, US yields are telegraphing that growth and inflation have already peaked and are headed for a hard skid. Of course, the Fed minutes did NOT make that forecast. The staff report was positive on growth prospects as least through the end of the year, though saw risks tilted toward the downside due to the possibility of covid variants. They saw inflation risks balanced citing upside risks related to bottlenecks and a possible change in inflation expectations, and trotted out the (now discredited) flat Phillips curve for the downside. Interestingly, ‘participants’ saw balanced risks on growth, but inflation risks tilted to the upside due to labor shortages and bottlenecks which might persist.
–Big trade +2EU1 9900/9875ps vs -3EU 9850/9825ps 0.5 paid for 40k, buying green. EDU3 settled 9909.5 and EDU4 9868. so 9.5 out vs 18.0 out. The actual calendar settled 41.5 versus 50 between top strikes. Implied vol firmed significantly in treasuries, indicating that fear has shifted to the prospect of a continued rally.
In: Eurodollar Options
FOMC minutes today
July 7, 2021
–FOMC minutes today will perhaps give a better sense of taper timing as yields continued to fall yesterday. Tens down over 6 bps to just 1.368%. 2/10 treasury spread made a new low of 115, down 4.6 on the day. Red/gold (2nd to 5th year euro$ spread) now equals 2/10, settling at 114.75, down over 6 on the day. This spread began June just over 162 bps. The gold pack (5th year) soared 9.5 bps with a price just over 98.33, a yield just below 1.67%. What is notable is that the red/green pack spread (EDU2, Z2, H3, M3 vs EDU3, Z3, H4, M4) is 57.625. So that one-year spread is almost exactly half of the three-year red/gold spread. The elevated premium is partially due to the libor transition date at the end of 2023, but it also reflects a rough idea that 2 hikes could occur at the end of next year going into 2023, and then tail off from there. Perhaps the idea is that a split midterm election will close the fiscal purse at the same time that the Fed is becoming less generous. Another notable feature of yesterday is that the ten year inflation-indexed note is nearing negative 1% again, closing at -97.6, down 5.6 bps on the day. The Fed claims to have some concerns about frothy real estate prices, but rock bottom mortgage rates along with deeply negative real rates suggests continued flows into real assets like homes and gold.
–EDZ2/EDZ4 spread traded 118 just after the FOMC meeting. Settled yesterday at 97. There was a buyer of ~15k 3EU 9887.5c yesterday, which settled 4.75 vs underlying EDU’24 9864.5. If we get near that strike, then Z2/Z4 will likely be 80 to 85. Worth noting is that a significant amount of activity yesterday was short covering in that open interest was down across the board. Open Interest in ED, -62k, in TU -21k, in FV -42k, TY +3k, UXY +0.8k and US -1.6k.
In: Eurodollar Options
Big Oil
July 6, 2021
–It’s all about oil this morning as the OPEC meeting disintegrated. CLQ1 currently 76.50, up 1.34. I’ve attached a chart which shows that a long term trendline off the 2008 high has been violated, though technical details probably aren’t all that important in the current environment. A BBG article this morning notes the Dec’21/Dec’22 Brent spread in deep backwardation, and says the last time it was here was 2011 to 2014, when oil was around $100/bbl. CLZ1/CLZ2 is currently 7.31 with the front contract at a premium (backwardated). Of course, that’s often an argument for ‘transitory’: temporary shortages now will give way to more reasonable prices in the future. Perhaps so, but CLZ1 is around 72.50, and the 100 calls on that contract are now 0.35/0.37 with over 20k in open interest; they were around 25 cents the last time I has looked. I can’t help but recall the somewhat famous line by Dennis Gartman in January 2016, “In my lifetime, we will not see $40 crude oil again for longer than a week.” Of course, if you Google $100 oil, you can find many forecasts of that level with one notable one in 2017 by Goldman. With the market shunning productive investment in fossil fuels in favor of “green” technologies, it shouldn’t be a surprise that oil has the possibility of strength well into the future. What it means for rate policies is an open question, though the RBA took a baby step in trimming QE from $5b A$ per week to $4b. In the US, what the man in the street will see is higher gas prices, with government officials reassuringly saying that inflation is not a problem.
–There’s an amusing interview with Charlie Munger where he praises the Chinese authorities for shutting down Jack Ma and his attempts to expand into the sphere of banking. Currently, China is putting a heavy hand on Didi due to data violations. (I suppose the breach is that the data is supposed to flow directly to the central government). In any case, it’s a somewhat interesting contrast between China’s crackdowns on the largest companies and the new US antitrust chief, 32 year old Lina Khan, famous for her articles on monopolistic practices, especially those of Amazon. The famous antitrust action was back in 1911 when Standard Oil was broken up (just to bring it back to our initial topic). Now it’s not big oil, it’s big data. From an Atlantic article fawning over Khan: “When a company has such power, Khan believes, it will almost inevitably wield that power far and wide, distorting not just the market itself, but the whole of American life. With sufficient power, companies can commission studies, rewrite regulations, bulldoze neighborhoods, and impoverish education welfare systems by securing billions in sweetheart tax cuts.” [I couldn’t resist using this quote, because I suspect the slant is much more of the Atlantic author’s than Ms Khan’s. That’s just the way it is. Better to go to Khan’s source material of course. “We cannot cognize the potential harms to
competition posed by Amazon’s dominance if we measure competition primarily through price
and output.” I for one, wish her well in stopping the abuses of the social media system, but again, I suspect she is up against forces that require more authoritarian power than she could ever hope to wield].
–In spite of Zoltan Pozsar’s warning about possible shifts in funds related to the recent increase in the RRP rate that could cause higher short end funding costs and possibly spill over into longer dated assets, rate futures are building slightly on Friday’s strength. Just look at the oil curve. It’s transitory.
https://www.agriculture.com/news/business/crude-oil-will-not-stay-above-40-again_5-ar52205
https://www.theatlantic.com/magazine/archive/2018/07/lina-khan-antitrust/561743/
https://digitalcommons.law.yale.edu/cgi/viewcontent.cgi?article=5785&context=ylj
In: Eurodollar Options
Stop Making Sense
July 2, 2021
–NFP expected 716k with yoy Avg Hourly Wage +3.6% from +2.0 last. It doesn’t seem to matter to fixed income, as stocks power to new highs and oil trades above $75/bbl, the high since 2018. This period (mid 2018) was when data was strong following Trump’s tax cut package, and the Fed was tightening – what they used to refer to as “taking away the punchbowl”. Different from today, when they’re pouring in grain alcohol and making sure there’s plenty of weed for the non-drinkers. As of this morning, USU trades 160-29, the bearish price action from Wednesday afternoon into yesterday morning has been erased with prices testing Wednesday’s high of 160-31. Though today’s data could change things, my bearish outlook didn’t pan out and I would have to cut the short position.
–Oddly, the eurodollar curve is telling a slightly different story. The peak one-year calendar is EDU’22/EDU’23, which settled at a new high of 65.5. The market appears to expect Fed hikes that will snuff out any embers of lingering inflationary expectations. Current inflation is obvious, but I suppose it’s a story of skating to where the puck is going to be, not where it is now. I just think they’re skating in the wrong direction. Given the SOFR transition at the end of June 2023, the Sept 22/23 spread is probably indicating two rate hikes. A cleaner reflection of Fed hike expectation is Jan’22/Jan’23 FF spread, which settled 27.5, so at least one Fed move is priced for that period.
–Deep in-the-money call buying in eurodollars: 18k EDZ2 9900c for 56.5, settled 55.75 vs 9946, 5k EDH3 9775c for 164, settled 163.25 vs 9934, and 5k EDM3 9775c for 153, settled 151.75 vs 9919. From open interest prelim, appears to be new buying of 75 to 90 delta calls. Just one more trade that doesn’t seem to make much sense….but I am getting used to that by now.
–Beware of thin conditions this afternoon as the holiday weekend starts. Happy 4th!!
In: Eurodollar Options
Sanctimonious preaching
July 1, 2021
–Markit Mfg PMI for the euro zone hit a record 63.4. Today in the US, ISM Mfg is expected 61.0 from 61.2 last. Jobless Claims are expected 388k. The attached chart shows ISM Mfg Prices pinned towards historic highs at 88. Going into tomorrow’s payroll report, ADP was released yesterday at 692k, but the previous number was revised lower so it was about a wash relative to expectations. Corn and beans soared on the crop report, with Dec Corn +40 cents and trading about 6 higher this morning at 595. In addition, CLQ1 made a new high of 74.55 bbl this morning.
–If quarter end was marked exactly at 4:00pm EST then the last gasp of bond buying occurred just prior to that with a print in USU of 160-28. From there it immediately sold off and is 160-00 this morning. Price action suggests to me that the buying fever has broken; I would be inclined to place a short with a stop just above yesterday’s highs and an initial target around the mid-June low of 157-12. Of course, tomorrow’s data could prove volatile, but might not matter all that much given the technical set up. The ten year yield was down 3.4 at futures settle at 1.444%, but is now again above 1.47. A popular trade in eurodollars, EDZ’22 to EDZ’24 two-year calendar, settled at 102.5, but immediately popped back up to 105 late in the session yesterday. New recent low in red/gold euro$ pack spread at 120.375 as reds (2nd year) closed +1 and golds (5th year) were +4.0.
–There was a new buyer of 10k TYU 135/136 call spread yesterday, which settled 5/64 vs TYU 132-16. It got a bit of BBG press as a trade targeting 1% in tens. My guess is that it’s a protection trade, and the buyer will be delighted to lose those 5/64’s and see the market go the other way, as a sacrifice to the bond gods.
–China’s leader Xi decried “sanctimonious preaching” alluding to the US in his speech marking the 100 year anniversary of the China Communist Party. Of course, I can’t side with Xi on much of anything, but on the topic of sanctimonious preaching he’s on to something, because it’s out of hand in the news media and across special interest groups. On the other hand, his uncompromising vow to re-incorporate Taiwan is unsettling, if not unexpected.
In: Eurodollar Options
Russian hacks spark reflation!
June 30, 2021
Little change in yields Tuesday, with tens unch’d at 1.478% as we head into payrolls on Friday. We get a hint with ADP this morning, expected at 600k. There is also a grain report, with futures trading slightly soft currently (Where in the hell is Beeks?). One trade of note was a buyer of EDZ2/EDZ4 at a price of 105 (settled 104.5, 99.47 vs 9842.5). Several large clips of this two-year calendar trade have gone through as Morgan Stanley reportedly recommended it. The FT reports today that several hedge funds were burned on reflation trades by the hawkish FOMC. Pretty obvious by price action, which has now probably run its course if the mainstream financial press is highlighting it.
–At 4:00 a.m. EST something appears to have spooked equity futures, with one colleague pointing to comments from ECB’s Panetta that the delta variant is outweighing confidence in global growth. Some also point to a Bild story about a major Russian hack attack on German banking infrastructure. There is a slight bid in US treasuries, though there was some notable buying in US puts late, including 2k of US week-1 (expires Friday) 158p for 5/64’s. On the FOMC release, the contract traded 157-12. In tens there was buying of Week-1 131.5p (settled 2) and in Week-2 a buyer of 15k 130.5/130ps for 2. Again, markets will be thin on Friday afternoon going into the holiday weekend, but the CME, in its wisdom, remains electronically open until 5pm EST.
–On a more granular level, a friend tells of a small US manufacturer of steel specialty cables. This business has been running flat out due to strong demand, but a hack in the past week caused a halt to operations. This is a recurrent theme that takes time and money to protect against. It is an increased input cost across business that is rarely mentioned in the ‘reflation’ story, and judging by news reports, is not transient.
In: Eurodollar Options
