Two short-end interest option trades lean in opposite directions
May 20, 2022
–Yields declined on yesterday’s equity market weakness, with ESM having tested the previous week’s low of 3855; yesterday’s low was 3856. May opex in equities. The ten year fell 3 bps to 2.851%, though TYM2, with a settle of 119-225 was well off the early morning fear-induced high of 120-10. EDZ2/EDZ3 traded as low as -5 but came back to settle -0.5 (9686/9686.5), a new closing low and the nearest 1-yr spread to have inverted. The Fed stoically vows to ignore asset prices in its inflation-fighting campaign, but it may become impossible to dismiss other data. For example. existing home sales -2.4%. From NAR’s chief econ Lawrence Yun, “higher home prices and sharply higher mortgage rates have reduced buyer activity.” From WSJ: “The share of subprime credit cards and personal loans that are at least 60 days late is rising faster than normal, according to credit-reporting firm Equifax. In March, those delinquencies rose m/m for the eighth time in a row, nearing their prepandemic levels.” China cut its 5yr Loan Prime Rate to 4.45% from 4.6%, widely seen as a measure to support the real estate sector. In the US, a friend was just quoted 5.75% for a 30y mortgage loan…
–Open interest in EDN2 9737.5 call sprang to life with a new buyer early yesterday. The call settled 12.5 with open int +62k to 66k. EDU2 settled 9736.5 or 2.635%. This option expires on EDU2 on July 15, before the July FOMC on July 27. From settlement, breakeven is 9750 or 2.5%. If the market’s perception shifts to the idea of two 50 bp hikes and then a long pause, with EFFR stalling at 1.83%, then EDU2 could easily surpass 9750. Another notable trade in the opposite direction, a buyer of 15k 0QM3 (mullet) 9550/9500p spread for 5.0. This is a midcurve option which expires in June’2023 (13 months) based on SFRM4 (2yrs forward) which settled 9728.5 (and was around 32 when it traded). So the top strike is 4.5%, but the contract itself is forward enough that perhaps the idea of persistently higher inflation will have taken deep root.
