March 3. Russian invasion increases economic uncertainty
–Barack Obama condemned the Russian invasion of Ukraine in the strongest way possible, threatening to send in Dennis Rodman.
–Tens, crude oil, gold, corn…all have made new recent highs overnight but have pulled back from extreme levels. $/yen is lower, now 101.30. Global tensions reinforce the theme of having to pay more dearly for the things that you need, and less for the things you don’t. As a distant sidenote, the Chernobyl disaster in 1986 led to a spike in grain prices as Ukraine was known as the agricultural breadbasket of the region. Strip out “food and energy” and prices appear tame. Economic strains on the EU are likely to intensify as uncertainty increases.
–On Friday 5/30 posted a new recent low of 208 (in part due to the new 5 year). One month range 220 to 208. I would think that geopolitical tensions, which are increasingly likely to spill over the globe, would argue for a steeper treasury curve. At the lows, 5’s yielded something like 70 bps compared to 1.47 now (1.51 on Friday afternoon). A true safe haven bid leaves plenty of price upside. This is a reasonable longer term support level for 5/30, and a core outstanding short position might find this turn of events as a catalyst to cover. It’s also worth mentioning that five year vol strengthened relative to longer maturities over the past week. One week ago, FVM 119.5 straddle settled 1’16 or 2.7 vol. On Friday the FVM 120 straddle settled 1’23 or 3.0. In comparison, ten year vol barely moved. One week ago TYM 124.0 straddle settled 2’19 or 4.7 and Friday I marked 124.5^ at 2’14, also 4.7.
–With tens now 2.61 and approaching the lower support band of 250, recall there had been a large buyer of 127.5 calls in April, May and June a couple of weeks ago. Still about 35 bps away, but if 2.50 support gives, then easily doable.
March 2. A few option notes…
Options in the long end continue to be mostly conservative plays for the downside. For example, TYM 119/121ps 2x (+) vs 124/124.5cs 1x (-) paper paid 1 for 15k, ps over. On Friday there was a large buyer of TYM 121/122.5/124 put fly for 15.
Week to week changes show that shorter maturity vol was much better bid than long term. For example, on Friday Feb 21, FVM 119.5 straddle settled 1’16 or 2.7 vol. On Friday the FVM 120 straddle settled 1’23 or 3.0. In comparison, ten year vol barely moved. One week ago TYM 124.0 straddle settled 2’19 or 4.7 and Friday I marked 124.5^ at 2’14, also 4.7.
The flatter curve accounts for some of the relative strength in shorter maturity vol. For example 2/10 w-o-w change was 242 to 233 (though decline was partially due to new 2 year), and 5/30 fell to a new recent low last Friday of 208, down from 216. Similarly, lack of mortgage activity is sucking premium away from longer maturities. Besides the downside plays in TY noted above, there has been consistent selling in TYM strangles, notably 122/126 sold at 50 and 51. (settled 55 Friday).
Week over week straddles in Green June and Blue June midcurves showed little change. 2EM 9850^ was unchanged at 40.5 and 3EM 9750^ was 45.5 one week ago vs 45.0 on Friday. As noted previously, futures ranges have been quite tight over the month of February with TYM 124-28 to 123-155.
Feb 28.Clouds forming
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–Trend to lower yields stays intact. Tens fell another 3 bps to 264. As mentioned yesterday, peak one-year euro$ calendar spreads are closing in on 100 bps, having made new lows yesterday. Highest point is still EDZ15/16 but that is now just 102, fell 3.5 yest. Recent high has been 111. Red/green pack spd new low at 91. Green/blue pack spread just 98.5.
–Fear is shifting to the upside in treasuries. First thing Thursday morning TYJ 125 straddle was trading 1’16, though it faded back to settle at 1’12 as the market eased off its highs. In vol terms I marked 125^ at 5.1 early yest, closed at 4.7. Beware the reach for vol on rallies…been a fade the last two times, but the third time might NOT be a charm.
–It seems as if there are an awful lot of clues building up suggesting violent volatility in the near future. Considered in isolation, they probably aren’t that big of a deal. Russia/Ukraine. China yuan slide and possible impact on Japan/China relations. Loss of faith in Japan QE as evidenced by the halt in the Nikkei rally. California drought. Extreme rallies is some commodities. Problems in Brazil which has stocks there near 5 yr lows. Taken together, the landscape is a bit unsettling.
–Consider the environment leading up to late 2007. In June, Bear Stearns announced that a couple of its mortgage funds were valued WAY less than originally reported. On June 22, Bear pledged a $3.2B loan to bail out the funds. In July/Aug SPX went from 1550 to below 1400, but came back and posted new highs in October EVEN AS OTHER MORTGAGE PROBLEMS WERE BECOMING CLEAR. Then got sliced in half over the next year. I might note in addition, that in the year leading up to the bid sell off, from June’06 to June’07 SPX had rallied from about 1250 to 1575 or around 25%. In the year just ended (Jan to Jan), SPX has rallied from 1400 to 1850 or 32%
Feb 25. Quiet Monday with curve flattening bias
–Quiet day in rates yesterday. Continued selling in TY straddles, notably TYM 124 from 219 to 215 (settle). April, May and June TY at 4.6 vol. In eurodollars there was a large closing seller of 25k 2EM 9775p at 2.5 covered 9850/50.5. The theme yesterday, following through from last week, is selling of gold eurodollar puts vs buying greens at flat premium. Spread between green pack (3rd yr) and gold pack (5th yr) is around 181 bps, the option spreads have mostly been struck at 187.5 (difference between strikes). These trades are synthetic flatteners. In the same vein, there was an outright seller of 10k Blue Dec 9637p at 15.5, 25 delta, 64 bps away. Taken together, the market doesn’t seem to have any fear of the downside in the longer end of the curve.
–Stocks made new highs on moderate volume. Several commodities also posted new recent highs, with coffee up 52% since the end of January. Soybeans also made a new reent high, up about 8% since the end of Jan, from 1270 to 1370.
–China’s currency is trending lower. I don’t know if there are technical reasons, but it makes sense to me that China would eventually want a weaker yuan in response to Japan’s devaluation, and weaker EM. Though the CRB is on a tear, manufactured products will likely remain under intense price pressure as China looks to exports to compensate for a slowing property sector.
Feb 23. Any turmoil in US likely to be sparked by EM troubles, which in turn were exposed by Fed’s liquidity reversal, i.e. tapering
–March treasury options expired quietly Friday, pegging the 125.5 strike. In eurodollars there continues to be selling of Short (red) June 9950c which added another 26k Friday to 224k with underlying OI in EDM5 of 875k. 0EM 9950 straddle for the past three Fridays has settled 18.5/18.0/18.0. The last time there was a huge short build up in the 9950 calls on the second red, Jack McGrath and I watched it closely, and while there was never an upside explosion due to short covering, by the time of expiration the contract had traded as high as 99.63-64. Week over week change in 2EM 9850^ was 42.5 to 40.5 though the range in EDM6 over the month of Feb has only been 9844 to 57.5 (on closing basis).
–The widest one year euro$ calendar spreads have had only 6 bp rnages in the past month, EDZ15/16 105.5-111.5 and EDH6/7 104.5-110.5).
–This morning NatGas is making new highs, as is gold, with crude and silver close. Rate futures are slightly better bid.
–Treasury auctions 2, 5, 7 years this week. Probably the largest domestic event will be Yellen on Thursday morning. Apart from the cold weather, US economic news hasn’t really had much impact.
–BIG THEMES continue to be emerging market fragility, the absolute explosion in the CRB this year, a slight change in Fed stance as policy moves to a more qualitative framework in the context of tapering.
–In terms of EM, with regard to political instability the news is non-stop, Ukraine, Thailand, Venezuela, etc. But there has been much more attention paid to China lately perhaps reflected to some degree by a weakening of the renmimbi from 6.06 to a bit over 6.09 last week. Not much of a move but against the drumbeat of slowing property values and a huge shadow finance architecture, it’s worth noting. Interesting item from BBG Friday: “China’s record imports of iron ore and copper, driven by traders who use them as loan collateral, risk repeating the vicious cycle of repayment difficulties and falling prices already seen in the steel-trading market. Xiao Jiashou, known as the ‘steel-trading king’ in Shanghai, had his assets frozen as China Minsheng Banking Corp. sues for money owed. Lenders seeking repayment are finding irregularities, including the same pile of materials used as collateral for multiple borrowings, China International Capital Corp. said. Money-market costs have surged, with the benchmark three-month Shanghai Interbank Borrowing rate jumping to 5.6% yesterday from 3.89% in June 2013.” THE SAME PILE OF MATERIALS USED AS COLLATERAL FOR MULTIPLE BORROWINGS…sounds like the theme for The Producers. Or American Hustle. “You believe what you want to believe.”
And while some EM currencies seem to have at least stabilized, for example TRY, INR, etc, Brazil seems to have a struggling equity market, within spitting distance of last summer’s EM crisis low, which was a 4 year low.
–CRB has absolutely exploded this year from 272 in early January to 302 on Friday, an increase of 11%. Mostly due to NatGas and Crude, but there are also fears of water shortages in California that could lead to surging food prices. Actually, not “fears”. There ARE water shortages and the state is cutting off water to some farmers. http://www.redflagnews.com/headlines/feds-withhold-water-to-california-farmers-for-first-time-in-54-years
http://www.zerohedge.com/news/2014-02-19/142-cities-brazil-are-now-rationing-water-drought-goes-critical
–But Yellen won’t mention those things Thursday. Steady as she goes…we think the US property market can make further headway.
Feb 19. US rates dropping as commodities rally
–Solid rally in interest rate futures yesterday, with ten year yield down 3.5 to 2.71. Early yesterday there was size buying of Apr, May and June 127.5 calls, all new positions, OI +36, +18 and +20k (Ten yr yield equivalent at strike approx 2.30). Further gains this morning. Stocks were up marginally as well, but the truly explosive rally is in the CRB index and Crude Oil. CLJ rose about $2/bbl to close above 102. Most grains appear to have put in bottoms. Gold has been pushing higher and silver jumped $1.50 in the past two days to hit $22. The multi-month rally in Oats should have been a big tip-off, right?
–While some EM currencies have stabilized recently, stocks in Brazil (Bovespa) tanked 2% yesterday and are close to testing last July’s EM panic low (which was the lowest in four years at 44000).
–In spite of the commodity rally, the 4th and 5th eurodollar contracts are near their highest levels ever. EDZ4 9968.5 and H5 9959.5 vs highs of 9971 and 9966.5.
–Besides the call buying noted above, there was mostly premium selling in tens. June 124.5 straddle sold from 2’23 to 2’21 where it settled, down to 4.6 vol. May straddle and April strangles also sold.
–Huge size traded in Green June midcurves, for the most part directionally positive. New position -40k 2EM 9800 put vs +2EM 9862/9875 call spd. Large seller of 40k 9825/9875 strangle from 20.5 to 20. Exit seller of 20k 9837/9812ps at 6.0. Green June 9850 straddle settled 42.5 Friday and 40.5 yesterday, though probably could have bought 40’s.
–News today includes PPI expected +0.2 and Housing Starts 950k. FOMC minutes.
From prelim open interest sheets:
2EM 9875c +57k
2EM 9862c +45k
2EM 9800p +42k
2EM 9812p -18k
2EM 9837p -23k
TYJ 127.5c +36k
TYK 127.5c +18k
TYM 127.5c +20k
Feb 17. Quiet start to week. FOMC minutes on Wednesday
–Friday’s Industrial Production of -0.3 added to a string of disappointing economic data. Volume was light in interest rates, with continued pressure on implied vol. Fed minutes out on Wednesday afternoon.
–A few headlines from Bloomberg over the past few days:
Feb 14: China Banks’ Bad Loans Reach Highest Since Financial Crisis (excerpt below)
Feb 15: China January New Loans, Aggregate Financing Exceed Estimates
Feb 14: European Banks Avoiding Risky-Loan Disclosure Face Review
–The last item concerns restructured loans to companies having problems; apparently many banks in the EU don’t disclose renegotiated loans. The point is that the growth of credit is positively correlated to economic growth, but the concern in China (in particular) is that such lending is for malinvestment. For example, lending to coal companies is one of China’s shadow finance issues. I’m sure this is a stretch, but I looked at the share prices for some large coal cos. in the US. In the past 3 years Peabody (BTU) from 70 to 17, Arch (ACI) 35 to 4, Alpha (ANR) 70 to 5. I would be a bit nervous to have an edifice of ‘wealth mgmt products’ secured by loans to coal companies, as is apparently the cse in China.
–A couple of other notes about debt vs equity and the interplay of QE. Japan’s Nikkei has been soft of late. From BBG: The head of Japan’s Government Pension Investment Fund has hit out at pressure to rebalance its bond-heavy portfolio, arguing that his Y124tn ($1.2tn)-in-assets institution should not be used as a tool to push up stock prices.
–A gov’t official in Norway is also urging that the percentage of bonds be cut from that country’s investment portfolio.
–Worldwide there is hope that increases in equity prices, whether pushed up by QE or, by extension, bank credit, or by other gov’t pressure, will somehow translate into solid economic growth in a positive, self-reinforcing spiral. The biggest experiment is in Japan, which appears to be the one closest to unravelling.
Feb 16. Interest rate option summary
The action still centered around TY options in the week just passed, though primarily in the form of liquidation. Two weeks ago, on the last day of January, TYM settled 124-03.5 and TYJ 124 straddle settled 1’57 (5.7). On Friday, TYM settled 124-01 and TYJ 124 straddle at 1’26 or 4.7. TYM range over the past week was only 123-16 to 124-16 in spite of Yellen testimony, treasury auctions, Retail Sales data (weak) and Industrial Production (similarly weak).
In the first week of February, there was heavy buying of TYH 125 and 125.5 puts, sending TYH vol as high as 6.4 and April up to 5.9. Stocks sold off as emerging market fears surfaced, and employment data was yet to be released. Vol was marked down immediately after the weak employment report. On the following Tuesday, TYH 125 puts were rolled into TYJ 123 puts in size of about 30k; TYJ 123.5 puts were also bought. However, on Thursday, TYJ 123 and 123.5 puts were sold (80k of TYJ 123’s), along with TYH 125.5 puts, an apparent capitulation with respect to further downside in tens. (I haven’t seen a bet ceded that quickly since Kramer in the ‘Master of My Domain’ episode). However, it could also be that the long put play was in conjunction with underlying cash longs, in anticipation of a further stock market rout. This scenario didn’t play out either. VIX, which had shot up to nearly 22 in the very beginning of the month, is now around 13.5, with near contracts in the VIX curve continuing to lose value against the back.
Having taken out the weekend, I marked both April and June TY vol at 4.7, 1’26 in the April straddle and 2’24 in June (originally settling 2’26 on Friday but marked even lower). News is fairly sparse next week. Fed minutes on Wednesday. Inflation and housing are the main releases on Wed, Thursday and Friday.
In Eurodollars, vol fell as well. There is consistent selling in red midcurves, notably Short June 9950 calls (though week to week change is 0EM 9950^ was only 0.5 from 18.5 to 18.0). There was a large exit early in the week of 0EU 9900/9850 put spreads, 40k sold 6.5 to 6.0. Further back, green to blue midcurve straddles remain close in premium levels, with both decaying near the same rate. For example, the previous Friday 2EU 9825 straddle settled 63.5 and 3EU 9725 at 68.0 (spread of 4.5). On Friday, 2EM 9825^ 60.5s and 3EM 9725^ 64.5s (spread of 4.0).
As mentioned last week the big open interest remains 2EH 9850 puts and 2EJ 9825 and 9812 puts (long) vs 9800 and 9787 puts (short, but on ratio). Respective OI 92k, 90k, 195k and 128k. Short delta, but capped and conservative. With Feb midcurve expiry Friday, 491k Green Feb midcurve disappeared.
Feb 14. This month rally in Nikkei has lost steam due to yen strength, ESH to follow?
–Retail sales yesterday were disappointingly weak -0.4 and previous data was also revised lower. Ten year yield fell nearly 6 bps to 2.735 as treasury auctions concluded with the 30 year bond. Very heavy volume in ten year options; hasn’t been seen since the gravy days of Countrywide Financial (remember them?) stirring the mortgage pot. Seems to have been primarily long put liquidation with heavy selling of TYJ 123 puts and TYH 125.5 puts. I marked April 124 straddle at 1’29 or just 4.7 vol.
–The eurodollar curve still reflects relative pressure on greens as the red/green/blue butterfly refuses to go down. When there was heavy green Feb and March put spread buying as the market thought the Fed might be forced to move tightening timetable forward, it made sense for red/gr/bl fly to be near zero. But given fairly soft recent economic data, and that bearish bets were abandoned in TY, seems like greens should get a lift. Perhaps today’s expiration of Feb midcurve options will play a part.
–Gold above 1300 this morning at 1310. Dollar/yen has again slipped below 102 (now 101.80), inflicting losses on Nikkei. While US stocks have seen a resilient rally, Nikkei seems to be entirely dependent on continued weakness of the yen. In many ways it’s a global phenomenon, that markets are more heavily influenced than ever by policy maker actions.
–Industrial Production expected +0.3 today.
Feb 12. Stay the course…
–Dana Carvey used to do a pretty funny skit on SNL mocking the first President Bush, giving a starry-eyed speech repeating the same empty platitudes: “…stay the course….thousand points of light…” Well, both Reuters and WSJ described Yellen as “staying the course.” And that’s how the prepared remarks read: Continuity of policy, tapering likely to continue, but not on any hard and fast schedule, Fed monitoring global stress in financial mkts but it doesn’t seem to be spilling over. You might even say it’s “contained”, though a ZH piece this morning mentions that many shadow retail funds in China are backed by coal companies, which now trade below book. Yellen mentioned that low rates tend to support housing and stocks. Sharp eyed equity traders didn’t let that one slip by, taking ESH up 20 handles.
–The player who one week ago loaded up on TYH 125 and 125.5 puts HAS an opinion. It appears he rolled out of a substantial piece of the 125p into TYJ 123 puts which now stand about 1 point or 12 bps out of the money as the ten year auction comes today. There was also a big buyer of TYJ 123.5 puts, which added 30k of new positions. [actually prelim open interest sheets don’t bear out the roll thesis, H 125p +28k and J123p +45k]. I don’t really know if it’s all the same guy, maybe just like-minded, but there are LOTS of TY puts being bought. Of course, maybe he’s just buying the puts HERE and buying Italian bonds THERE, as BBG reports Italy 10’s have dropped to 2006 low of 3.67. (That’s a joke, ok?)
–There were some big trades in euro$ options as well, notably a seller of 40k 0EH 85/90 put spreads down to 6, appears exit of long 9900 puts. Late buyer of 10k 2EM 9862/9837 p spreads. The plunge in vol in interest rate futures seems to have been arrested for the time being.
http://www.marketwatch.com/story/scary-1929-market-chart-gains-traction-2014-02-11
http://www.zerohedge.com/news/2014-02-11/think-chinas-credit-crisis-over-dont-look-chart
