Punishment for the longs

Some of our long interest rate spreads are really taking it on the chin. Though it's frustrating (and sounds very cliche) this is an opportunity to get long(er). Over the past few days there has been a buyer in the inter-market spreads (i.e. a customer has purchased 8,500 May-July spreads and another has purchased 10,000 June-September) which leads me to believe that there is real interest in seeing the overnight rate trend higher as the Fed reduces liquidity in the system.

If you subscribe to the idea that the rates will have to drift higher (say from .12% to .20%) here's a thought on how to capture three meetings from the Federal Reserve and at least be 'set up' for that move.

We bought the July 68/75/81 put fly for 1.50 tics

If the Fed 'hints' at moving towards a more standardized target of .25% one could expect the July Future to begin the drift back towards 9975. Doing this trade in July gives you the March, April, & June meetings and minutes to spark a bit of rational thinking back into the market. Ideally, July will head towards 9975. You'll notice that the butterfly's two shorts are the 75 line. To maximize our return, we need to settle as close to .25% (9975) as possible. If that happens, we will net 425 tics per 100 lot (or $17,710). The max loss is 150 tics per hundred ($6,250) and this is realized fully with a a July settlement outside of 9968.50 & 9981.25. Three to one on your money, with a directional bias, actually seems to be the correct move. Merrill Lynch has also been a consistent buyer of this spread.

Remember, this Fed doesn't want to spook anyone and I think they will broadcast any type of change (to the language or posture) loud enough for all to hear. This means that they may hint to a language change, then tell you about a change that will happen, and the finally make that change. Capturing all three meetings for any (or part) of this scenario to play out is most advantageous. I'm sure most of  readers are familiar with the old phrase "Buy the rumor, sell the news." Hopefully, the trading community agrees and lays into the July as Fed policy starts to change.

It's going to happen: did you see Hoenig today...he wants to get these 0% rates moving too.