Dec 17. 300. “This is where we fight” Red/gold euro$ pack spread
–Light volume yesterday. The biggest feature was strength of the green pack relative to the rest of the curve. Red/gold pack spread (new) was up 2.75 as reds gained 1.625 and golds fell 1.125, but green/gold was up over 4 bps as greens rose 3 bps. One year butterfly EDU14/15/16 settled at -64.5, close to an all time low for that slot. (I believe the lowest I’ve seen a one year fly is -66.5). The butterfly goes more negative as the back one year spread widens relative to the front.
–In my opinion, this price action fits with the idea of a small taper with stronger forward guidance, perhaps by a lowering of thresholds, at tomorrow’s FOMC.
–As noted previously, the high for the red/gold pack spread this year has been just below 300, and the new red/gold pack spread is currently at this level (closed just above 298 yesterday). What I haven’t noted is just how important the 300 bp level is, as it was tested in 2009, 2010, early 2011 and this year in the summer and now. (Chart attached in below post). A breach of the 300 level should cause a rapid scramble to 340-350. After September’s “non-taper” the spread fell back to 250. Would seem to argue for a position of long gold puts hedged.
–Probably the one year fly referenced above would make brand new lows at the same time. In other words, position exits from ALL TIME EXTREMES at a time of year where markets are generally on the thinner side could cause violent moves.
–Today’s news includes CPI expected 0.0 with Core +0.1. Treasury kicks off auctions with the two year note.
Dec 16. The Spartans’ stand at Thermopylae
“Here did four thousand men from Pelops’ land
Against three hundred myriads bravely stand”
The poet Simonides’ inscription at the pass of Thermopylae to honor Leonidas and the Spartans.
Above is a graph of the red/gold eurodollar pack spread (2nd year vs 5th year contracts). In 2009, 2010, 2011 and twice in 2013…in all these instances 300 has stood against the invaders. However, going into this Fed meeting, the level is destined to fall, especially if a reduction in bond buying is announced. (Today’s close of just under 295 uses EDZ’14 as the the first red, but the new red pack has EDH’15 at the forefront, and the spread is just over 298). There ought to be a disbelieving scramble to cover, as risk managers step forward to force exits at ridiculous levels going into year end.
Dec 16. Taper week?
–Main event for the week should be the FOMC meeting and press conference, with taper expectation at 50/50. The data on the attached sheet has rolled to reflect the December contract expiration, but whether rolled or not, many spreads are going into the meeting near yearly highs (new red/green pack spread just below 100 bps, red/gold just below 300). The argument can easily be made that the curve has already priced in a decrease in Fed bond buying. As an example, the first blue eurodollar contract was over 9900 in early May; EDZ16 which was the first blue and is now last green is 97.855, and today the first blue (H’17) is 97.58. So in yield terms the first blue has adjusted from a yield of around 1% to something like 2.25%. On the other hand, stocks were significantly lower in May with SPX around 1600, vs 1775 now.
–In what could loom as a larger issue into the new year, EM currencies (Indonesia, Turkey, Brazil) are nearing or making new lows seen after initial tapering fears, and may not as easily absorb the actual event. I think a theme for 2014 may be that capital is much more finicky and selective in the global search for returns. “Capital” and “scarce” might actually be used in the same sentence…
–There was a large seller of mini-SP shortly after open last night which took the contract to -10, but it has now recovered and trades positive. Japan’s Tankan showed “waning optimism” (FT) by businesses regarding Abenomics, with capex plans being shaved back.
–Aside from the Fed meeting, treasury auctions 2’s, 5’s and 7’s. Using w/i 5 yr, 5/30 spread made a new recent low Friday at 230 bps. (Had neared 200 bps in early Sept).
–Today’s news includes Empire State, expected 4.5, PMI 55.0 and Industrial Production expected +0.6.
Dec 12. Does Fischer as Fed vice-chair weaken forward guidance plans?
— Interest rate futures erased a portion of the gains made since Friday’s employment report, as the ten year note rose 5 bps to 2.845. Red/gold pack spread up 4.25 to 293. Softness attributed to taper concerns, a ten year note auction that was on the weaker side, and reports that Stanly Fischer would become the Fed’s vice chairman. From BBG “He [Fischer] has voiced skepticism about using so-called forward guidance to signal the Fed’s policy intentions as much as two years in advance.” He favors shaving back the Fed’s bond buying program.
–Stocks used the opportunity for some profit taking, with SPX down 1.1%. We also noted some late day calendar spread buying in dollars, (EDZ4/EDZ5 61.5 to 62 for 5k) even as stocks were breaking, an indication of concern about forward guidance. A couple of weeks ago Bill Gross tweeted that he was certain that FF would be at their current level at the end of 2015. Does Fischer cloud that forecast? A taper without strong forward guidance could roil markets. In some ways the Fischer choice makes it more likely that the Fed will change thresholds on employment and inflation, and let the market INFER a time horizon.
–News today includes Jobless Claims expected 325k (possible skew due to Thanksgiving), Retail Sales, expected +0.6 but +0.3 less autos and 30 year bond auction.
–December euro$ midcurves expire Friday.
Dec 9. Is it tapering, or something much larger?
–Rates moved a bit higher after Friday’s stronger than expected employment report. Tens were up a couple of bps at 288. Going into next week’s FOMC, it’s all going to be about tapering and when it starts.
–As we go into the last Fed meeting of the year, I would like to consider the tapering decision in the context of rates and spreads,comparing the first 4 months of the year with the period of May forward, the latter being when hints of tapering/tightening ensured. Back in April red/gold pack was 150ish, now it’s double that and at the high for the year at 298. 2/10 was also around 150 in April, but is now 259, a new high for the year. Red/green had been around 30, got to a high of 109 in mid-Sept, but is now around 87 as the Fed’s forward guidance message has taken hold. The ten year yield held under 2.05% for the first 4 months of the year, and is now 2.88. Apart from inflation, data has improved. One could argue that the heavy lifting for tapering has already occurred, that the adjustment following the Fed’s (mis?)communications has placed the bond market on more steady footing to absorb policy change. After all, many yields and spreads related to the Fed’s bond buying are up 100 bps or more. Perhaps though, the market is a little too focused on tapering, and what we are seeing is a global phenomenon of rising bond yields which is a much larger function of capital flows…that’s the question for 2014.
–Today we have Fed speakers Lacker, Bullard and Fisher, starting at 12:30 NY time. Treasury auctions 3’s, 10’s and 30’s starting tomorrow. Retail Sales Thursday.
–Speaking of QE, Japan’s Q3 growth was revised lower, but the Nikkei surged 2.3% with $/yen above 103. A pretty clear indication of forward QE expectations in that country…
Dec 6. Will today’s employment data set the table for a test of Yellen next year?
–The last employment report of the year with NFP expected 180-185k at a rate of 7.2%. Labor improvement evident in Jobless Claims which were 298k; since the middle of 2006 they’ve only been below yesterday’s mark 4 times. Core PCE prices also out, expected +0.1.
–30 year bond yield at 3.91 is essentially at the high of the year, it was 3.92 on 21-August. Red/gold pack spread was up another 3.5 at 2.97, also right at the year’s high. Same with 2/10 at 256. Once again deferred one year spreads made new recent highs, with the peak EDM’16/’17 at 116.5.
–Implied vol eased slightly yesterday. Large put structures still being bought on EDH7 underlying. Yesterday it was 50k of 3EG 9750/9725/9700/9675p condor for 5.0.
–Though I’m not convinced of underlying economic strength, I think the debate is going to shift in the early part of the year to a question of whether the Fed can really hold its ground on forward guidance. There’s always a test for the new Fed Chairman, and the markets may push hard in the early part of the year. Perhaps it will be reminiscent of Greenspan’s start, when a bond rout was the prelude for the stock crash in 1987.
–The expectation is that a decision to taper will be accompanied by stronger guidance, but at this point I think the market accepts a taper as inevitable. A high NFP today may bring it at the Dec FOMC, but even slightly weaker than expected data today won’t take a taper off the table.
Dec 5. Heavy put buying on deferred euro$ contracts
–Continued pressure on interest rate futures in front of tomorrow’s employment data. New highs in deferred one-year euro$ calendar spreads. Peak in one year spreads is June’16/June’17 which settled 114.5, +2 on the day. Highest any one year spread settled this year is 122.5. Red/gold pack spread made new recent high 293.75, less than 5 bps from the year’s high. Ten year yield rose 6.5 bps to 2.84.
–Massive new put buying yesterday, mostly in the form of midcurve butterflies on EDZ’15 and EDH’17 underlying contracts. For example 3EF 9750/9725/9700p fly 3.5 paid for 50k and 3EH 9750/9700/9650p fly 7.5 for 50k. Heavy buying on Green Dec midcurve puts, which expire one week from Friday. The 9900 put settled 3.25 with EDZ15 9906.5 settle.
–Today’s news includes Q3 GDP revision, expected 3.1%, Jobless Claims 322k and Factory Orders -1.2%.
–From Business Insider: “Bitcoin prices fell from a high of $1,240 to a low of $870 this morning.” A drop of 30%, as China bans financial companies from bitcoin transactions. In another reaction to gov’t rules, though decidedly in the ‘old school’ category, Reuters reports that gold smuggling has surpassed the illicit drug trade in India. In terms of safety and an anonymous means of transaction, perhaps the one you can physically hold will again gain favor.
Dec 4. Like it’s 1986…(of course, there was a stock crash in 1987)
–Yesterday, $/yen hit a new high and then closed lower on an outside day, same pattern against euro. Stocks continued their pullback, though not unexpected given the 10% rally in the past two months. Seeing a large rally in Jan Crude…having hit new lows at 92 at the end of November, it’s currently above $97/bbl. This, while gold and silver continue their drift to new lows.
–Car sales were robust yesterday on the heels of much stronger than expected ISM. By many measures, the economy is performing quite well. If a time traveler was propelled from the mid-1980’s, and just looked at the data without knowing the structure of interest rates, he’d probably guess that somewhere around a 5-6% Fed Fund rate was appropriate. In 1985 inflation was 3.5 in 1986 it was 1.9. In 1986 FF rate was around 6%. By the way, the unemployment rate in 1986 was 6.7 to 7.2. In 1986 the Fed’s Financial Obligation Ratio was a bit over 17%, now it’s just a bit over 15%. Just take a look at the chart on this short post: http://fuelfix.com/blog/2013/12/03/new-data-shows-meteoric-rise-of-texas-oil/ The energy outlook is good, US banks have repaired their balance sheets. Why is the Fed wringing its hands over the fragile recovery? How is a 2 3/4% ten year yield justified? Only because of crushing gov’t debt loads and unfunded liabilities…
–A lot of data out today, including ADP expected 185k, Intnat’l Trade -$40B, New Home sales 425k and non-mfg ISM, 55.5.
Dec 3. Sliding into the end of the year prepared for higher US rates
–Interest rate futures trade heavy going into the employment report, as ISM beat at 57.3. New highs made in deferred one year spreads, for example EDH16/H17 rose 3.5 bps to 112. Peak one-yr spread is EDM16/M17 at 114; peak for the year has been 122. The rise in back month spreads has caused futures butterflies to make new lows. EDM14/15/16 set a new low of -62.5, nearing the lows set for any one-year fly which was in Aug 2011 at -66.5, being the 4th, 8th, 12th qrtly, which currently corresponds to EDU14/15/16, now at -60.5. The move makes sense fundamentally as forward guidance holds funding rates *expectedly* low thru 2015, with rate hikes afterward. So, the nearer spreads remain controlled, the backs widen. However, it seems a bit stretched at these levels. For all the talk of the Fed losing credibility, the euro$ curve accepts the low rate pledge thru 2015 as gospel.
–In treasuries, implied vol is making new highs on the sell off, however there has been some selling of 123 puts and lower strikes on ratio trades. The 123 strike in TYH is about 23 bps away, or just above 3% on current ten year. Trades seem to reflect the viewpoint that we can test 3% or a bit higher, but not sustain. On the other hand, red/gold euro$ pack spread at 292 (+7.25) is within whisper distance of new high for the year (298).
–Gold and silver nearing lows for the year set in summer when the Fed had prepared the market for tapering. Copper holding a bit better, but the trend is the same. The year’s low was around 3.05 on March contract, now 3.17. Stocks, for now, are oblivious. To everything.
–BBG: Yuan Passes Euro as Second-Most Used Trade-Finance Currency. And another BBG article mentions that in Japan, “Regular wages excluding overtime and bonuses fell 0.4 percent in October from a year earlier, a 17th straight monthly decline, according to labor ministry data released today.” Central banks everywhere have seen that QE helps financial assets, but the linkage to wage growth is broken (if it was ever there). Japan’s theory of “It just wasn’t BIG enough” is now being tested, but still isn’t spilling into wages.
Dec 2. QE taper concerns edge a bit higher
–Data this week may sway the argument toward a December taper. Today’s news includes ISM, with non-mfg ISM and Beige Book on Wednesday and the Employment situation on Friday. Markit’s PMI data was released this morning for the eurozone and was mixed. As a whole “Output, new orders and new exports all expand for the fifth consecutive month…but fail to halt the ongoing slide in manufacturing employment.”
–The US trades as if tapering concerns are edging higher. Ten year futures are down half a point, blue eurodollars are down 7. Yen is making new lows, gold is close behind, GCG -13 to 1237. Interestingly, treasury straddles lost no value on Friday; implied vol was better bid throughout the interest rate complex, another indication of taper concern. Tens and bonds are at the highs of the previous month’s range in implied. Red/gold eurodollar pack spread rose nearly 2 bps and is also near its high, just under 285. Again, red/gold pack spread is just 15 bps away from a new high for the year, while the ten year note is 26 bps away from yearly highs.
–From BBG: “Abe No Friend to Emerging Bonds as Nikkei Jumps Most Since 1972.” With Japanese investors jumping on the equities train, flows into emerging bond funds are running half the pace of the past three years.
–Emerging markets were a victim of the tapering scare this year, and while many emerging markets recovered with the Fed’s inaction in September, risks of less QE along with changes in Japanese flows, (and the weaker yen making japanese goods cheaper), should provide fresh challenges for EM this year.
