(Bloomberg) — Bond traders are once again growing doubtful that the Federal Reserve will deliver the two interest rate cuts that were priced into the swaps curve just last week.
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Swaps market are now pricing in around 40 basis points of rate cuts for the end of the year, with the first full 25 basis point of easing priced into the November policy meeting. In the immediate aftermath of a last Wednesday’s benign inflation reading for April, the markets had priced in closer to 50 basis points of cuts, or two 25 basis point moves.
Positioning suggests that new short bets have since been rebuilt as yields pushed higher in recent days, at the same time long positions on more mature government bonds were partially unwound. Traders are staying cautious as they await more data to confirm inflation is heading in the right direction as well as fresh clues on the US central bank’s policy path from the latest minutes from the Federal Open Market Committee’s meeting expected on Wednesday.
“If we get enough data going the right way, then we can think about cutting rates later this year, beginning of next year,” Fed Governor Christopher Waller told CNBC Tuesday. April consumer price figures were a reassuring signal that inflation is heading in the right direction, but “several more months of good inflation data” are needed before he would back the Fed easing its monetary policy, Waller said this week.
Tuesday’s session saw a slight reversal in the recent bearish momentum, initially prompted by Canadian monthly inflation data and then by a wave of buying in the front-end of the Treasury futures strip.
Read more: Global Bonds Rise on New Sign Inflation Is Easing Around World
Uncertainty has left a mixed positional backdrop in the US rates market of late, with the bias remaining broadly balanced on the near-term direction of yields from current levels.
It’s also bolstered the popularity of short-volatility bets — an investing strategy that pays off if the market remains placid — in the options market. Demand picked up for hedging a move lower to 4.3% in 10-year yields last week, and the position appeared to be added to again this week.
Meanwhile in the cash market, JPMorgan’s latest survey of Treasury clients showed a more bullish tone, with net longs back to the largest position in a couple of weeks, as short positions shifted into neutral.
Here’s a rundown of the latest positioning indicators across the rates market:
Add Duration
In the week up to May 14, asset managers added to net duration long position for the fifth week in a row, by an amount equivalent to around 290,000 10-year note futures. The duration add of around 1.4 million 10-year note futures equivalents since April 16 has taken the overall duration long among investors to north of 7.5 million contracts, a record amount.
Hedge funds have continued to take the other side, adding to net duration short by around 145,000 10-year note futures equivalents and are net duration short at almost 7 million contracts.
Shorts Trimmed
In the week up to May 20, JPMorgan clients cut short positions by 4 percentage points, shifting into neutral while long positions were unchanged at 17%. The net long position for all clients is now back to the largest since May 6.
Treasury Skews Neutral
The cost of hedging moves in Treasuries via the options market is broadly neutral, as the recent premium to hedge a selloff in the long-end of the curve has unwound over recent weeks.
The so-called skew in the front end and belly of the curve continues to also trade around neutral, with minimal premium to hedge either a selloff or a rally in the bond market. Recent flows in Treasury options have included short vol plays, including $5 million premium straddle sale in 10-year tenor and a $12 million premium short vol play via strangle sales.
Most Active
The most active options over the past week have been the 94.625 and 94.875 strikes where open interest has jumped notably in put strikes attached to the SOFR Sep24/Dec24 94.875/94.625 put spread/spread position.
Both the 94.9375 and 95.0625 strikes have also been actively traded over the past week, with new positions including buyers of the SFRU4 95.0625/94.9375 1×2 put spread.
Heat Map
The two most populated SOFR options in contracts out to the Dec24 tenor are now the 94.875 and 94.625 strikes largely down to positioning being built over the past week in the SOFR Sep24/Dec24 94.875/94.625 put spread/spread position. The structure is buying the Sep24 put spread versus selling the Dec24 put spread.
Open interest also remains elevated in the 96.00 strike, with a heavy amount of positioning seen via SFRZ4 96.00/97.00 call spreads, which have been a popular trade over the past couple of weeks.
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