Big yield jump; limited from here?
Nov 8, 2019
–Big day Thursday. Yields jumped with tens up 10.5 bps to 1.917%. New high in 2/10 at 24.4, up 3.7 on the day. All near euro$ calendar spreads made new highs. EDH20/EDH21 rose 6 bps to -11.5. EDU20/EDU21 settled POSITIVE 0.5 bp, with all spreads following also positive. Reds/greens up nearly 3 bps to 5.125, while 2/5 treasury jumped just over 4 bps to 6 bps. My working interpretation is that the world is rejecting negative rates (european bonds were already climbing to new yield highs as the US day started; the bund was -70 in the beginning of Sept, and is now -25) and that the Fed’s bill buying works as financial stimulus, steepening the curve and boosting stocks, while perhaps also supporting inflation expectations. But forget my theories… let’s look at a couple of large trades:
–First, on Oct 31, post FOMC when bonds were strongly rallying and near the highs of the day (TYZ 130-13 and USZ 161-21), a buyer of put spreads stepped in to fade the move. He bought 35k TYZ 130/129ps for 19 and 30k USZ 160/158ps for 28. Yesterday he exited at 48-49 in TY and 1’26 to 1’28 in US. This guy seems to know what he’s doing… Settles were actually a touch higher, 0’53 vs 128-125 and 1’38 vs 156-21. Secondly, there was a new seller of 50k EDZ20 9850 straddle at 48.0 (settled 47.25 vs 9835) and a buyer of 50k EDZ0 9887/9937cs around 5.5 to 6.0, settled 5.5. As a combined trade, the thought is that the Fed either stays put or is forced to ease a bit more; the call spread protects the upside. Downside b/e at expiry is around 9808.
–In any case, both of these trades suggest that downside may be limited from here. However, take a look at option straddles, EDH0 atm straddle, now the 9825 line, settled 17.5 vs 9827.5 down 1.5 on the day, and the 9837.5^ settled 22.0 (unch’d). On the opposite end of the curve, the atm Jan US straddle went from 3’22 to 3’42. So, *fear* of the downside has been awakened on the long end. There’s no concern about near term tightening, but eases have also been significantly priced away. However, long end dynamics could be shaped by supply or a return of inflation premium, or simply a massive unwind of flatteners. In terms of reflation, gold isn’t currently sending that message, having been hammered yesterday.
–Consider one other trade from early in the week, a buyer of 0EZ/3EZ 9837 put spread (buying blue, pay 0.5 to 1.25) when EDZ20/EDZ22 was around 0.5 to 1.5. The futures spread settled yesterday at 8.5, while the option spread nearly kept up, settling at 6.5. The synthetic steepener hasn’t worked much, but it paid yesterday!
–A Friday before a holiday for Veteran’s Day (floor closed Monday) probably means that longs will be trying pare back, capping upside today. Probably just chop around.
