If taper is faster, hikes comes faster
December 1, 2021
–EDU2 was trading 9944 when Powell suggested tapering could be accelerated, and it immediately traded 9931 before stabilizing and settling 9934. It currently trades 9927. The back end of the curve also sold off, but longer maturities then staged a strong rally, flattening some parts of the curve to new lows. For example USH1 was 162-08 pre-Powell, immediately traded a low of 161-04 and then popped right back to 162-08; the contract settled 162-04. New low in 2/10 treasury spread at 91 bps. 5/30 closed at just 63.5 and red/gold eurodollar pack spread, which was over 180 bps at the end of March, closed at just 50! Red/gold is the spread between the second year forward and the fifth. A representative spread would be EDH23 (9887.5) and EDH26 (9830.0) which settled 57.5. As a comparison, EDU22/EDZ22, a three-month spread in front, settled at 26.5 (9934.0/9907.5). EDM2/Z2 settled 47.5. So a near six-month spread has nearly the same amount of ‘tightening’ built in as a forward three-year spread. All the steepening (and expected tightening) is in the front end of the curve. The market is currently sending the message that these near-term rate hikes will sap economic activity and stop inflation. At least that’s the kneejerk. However, all markets are currently rather turbulent.
–Implied vol firmed. On Nov 1, 0EH 9887.5^ was 47.5 and 2EH 9837.5^ was 50.0, with 130 days until expiry. Now the same atm straddles are 43.0 and 47.0, not much of a decline for a month of time. EDH24 9837.5^ on Nov 1 was 108 vs 9843.0. With futures nearly the same at 9839.5, this straddle actually appreciated in value and is now 111.
–I would think Powell has a pretty solid idea of what the payroll report will look like on Friday. NFP expected 530k. Today we get ADP, expected 525k. FT notes US junk bonds hit by sharpest sell-off in a year. Both HYG and JNK are at new lows for 2021.
