Super Bowl

I had intended on getting this out on Saturday or even Sunday, but as usual, life got in the way. By life, I'm referring to a 2 hour trip to Costco, church, little people who want to wrestle, and 36 miles of running over a 36 hour span. Oh, then there was that part about the Super Bowl consuming ~4.5 hours of my life. By the time I actually got around to writing, my brain was fried and it was moved to today's agenda.

Friday was a fairly busy day. I don't really want to write about the legitimacy of the NFP data and whether you believe it or not. Rather, I'd prefer to focus on what happened in the products we watch and where we think the next few weeks will take us.

Let's talk Fed Funds. There was a noticeable volume spike heading in to the week's end. Where we are normally seeing 18-22K contracts a day, we suddenly saw a bounce up north of 50K. Obviously, customers wanted to move some of their inventory prior to the release on the Unemployment figures on Friday. On Thursday, prior to the data, a new customer came to buy 3000 of the July '12 -- Jan '13 future's spread. He started accumulating at a price 2 ticks and paid up to 2.5. We count spreads on an adjacent month basis. That is to say, that selling 100 N/F spreads actually resulted in selling 600 spreads {100 of each adjacent month NQ, QU, UV etc...}. At the time, 2s looked to be a decent sale. However, by the time the customer started lifting our 2.5s the trade no longer looked attractive as all the hedges has disappeared.

As the number hit the tape on Friday, the Funds sold off 1-2.5 ticks {which, if you're familiar with this product, is a substantial move}. Right on cue the customer was back to buy 1000 more spreads and though he was only 2.5 bid, we were sure that he'd need to step up and pay at least 3.5 in order to get filled. Hindsight trading says we should have unhitched the wagon and dumped every spread we had in our inventory at that moment. However, we didn't and within an hour or so, the Funds had rallied, the spreads had collapsed, that bid was long forgotten as the 1.5s began to trade in N/F. The turn had been subtle, but the force behind it showed that market participants still agreed that we're not going to see a Fed Funds rate change until 2014. We did well when viewing the traded for 50K feet, however, had we taken a more aggressive stance prior to Friday {which market participants did post-NFP} we would have locked in a great trade.

~LH

2012 Predicitions

Everybody is doing it these days, why not throw my hat into the ring. Besides, its always fun to be ridiculously wrong and subsequently mocked.

I'll focus on the areas where we actually trade, work, and enjoy.

Left Hash's Calls for 2012

Fed Funds: 

I think Ben and his gang have sufficiently squashed any hope of a rate hike for all of 2012. Their language at the last FOMC meeting even hinted at further QE, which in my opinion, is an even bigger mess than the one he's trying to solve. The funds rates have been settling around 7-9 bps for a while now and though the market and its participants don't really like this level, I don't foresee it moving more than 4-5 bps {and the only direction is lower}. I am comfortable selling the 1 year 87-93 strangle strip at 39.5 {1.5.12 settlement prices + some modeled data}. Any premium collected with cover you in the rare event that we actually move. Additionally, I believe that our model will create a lot more opportunities to trade if we do head lower and spreads start expanding. I firmly believe, a settle outside of that strangle has about a 15 delta. 

ED: 

I don't believe LIBOR will stay here for the year. I believe that the European banking/sovereign debt crisis has 'mostly' blown over and we'll begin to see a return to cheaper money. If Ben and company do initiate some type of QE3, I don't think its out of the realm of possibilities to see the 97 line come back into play across the whites. However, I would wager that for the most part, you'll see LIBOR average around 40-45 bps for the year with an occasional dip down into the 50-55 range. I would buy put spreads to take advantage of extremely rich put skew and to hedge some of the event exposure {9925-9900 or similar}Buying calls on the grind higher also would be prudent, as they somehow 'decay' on an uptick in the futures. It will be interesting to see if the Fed Funds vs Eurodollar correlation comes back into line as 2013 {and raising rates} looms. 

SPX: 

I don't really trade equity futures except to speculate. My one year target is 1405. The range will be 1080-1465. Drifting lower at the end of Q1 will bring about some type of QE3 and rally the equities into the 1400 range. A long grind for the summer months, followed by a slight pull back into year's end for a gorgeous print of 1405. Buy ES puts when the VIX is below 20, sell everything you can if it spikes above 40. 

Yield Curve: 

The Tens will print 1.50% and the Bond will touch 2.40% and because neither is good for anyone but giant banks, they will snap back and settle at 2.25% and 3.50%. The locals still have the front skews to the calls {implying that in the near term, the traders feel we'll trend higher and therefor pay a premium for that protection versus the puts} However, if you look 6 months out that trend levels out and 9 months out, it has actually shifted towards the puts {implying lower price and higher yields}. I wouldn't be afraid to buy puts and sell calls up to 3 months out. 

Gold: 

 Currently $1600 

2012's high: $1872 

2012's low: $1344 

 Settle: $1440 

Crude: 

Currently $101 

2012's high: $114 

 2012's low: $82 

Settle: $88 

 EuroCurrency: 

Currently $1.2725 

2012's high: $1.3630 

2012's low: $1.2200 

Settle: $1.3150 ______________________________________________________________________ 

Never to be out done, my colleague, Mr. PrD {Philosophical Rail Defender} has offered a quick glimpse at what he believes will be our 2012. 

Mr. PrD's Calls for 2012 

Overall, I think 2012 will have a periods of reflationary hopes, dashed by deflationary fears, much like 2011. Much will be dependent upon further increases in central bank balance sheets. However, I predict that the half-life of any such increases will be increasingly shorter and shorter. My advice for the year is not marry any one idea, keep an open mind (don't fall into the trap of extreme sentiment accompanied with herd psychology), and understand that we live in exponential times. 

That being said, the predictions are: 
S&P 
High:1320-1350 
 Low: 950-980 

Oil 
High:110-112 
Low: 65-68 

Gold 
High:1850 
Low:1400 

30 Year yields 
High: 3.75 
Low: 2.40 

Euro currency 
High: 1.3400 
Low: 1.1800 

Hope we all make a ton of money this year. 

~LH

Booking Expectations

The addition of the newest office member has added an exponential increase in our trade idea generation. Though we have been substantially quiet in many of our markets, it hasn't been for lack of ideas, rather we're experiencing a total lack of conviction. As I type now we're in the midst of another spectacular bull session for the Euros. LIBOR has downticked to a paltry .28906%. In the last 15 trading days, the Green December ED {2012}has rally almost 40 ticks. The expectations of long term QE are all but assumed to be relevant from now through the 2012 calendar.

We're stuck with the questions of how profit in the zero interest rate vacuum. How do craft an option play that capitalizes on the market's perceived risks {that the market continues to drift toward zero? Over the past few days large ED customers have been buying thousands of EZ2 9925 calls at 1 {>30K}as well as the EZ2 9900-9925 call spreads at 4.5 and 5 {>40K}. Seriously!?! That's 40 ticks away and has 65 days til expiration. That's unbelievable. Though given the the last 15 days, it doesn't seem like much of a stretch huh?

Now we're drifting higher in price, lower in yield. The markets can't keep rocking higher, can they? What happens when QE2 gets released?

One of the more poignant arguments I've stumbled across lately is in a Bianco research piece. This piece focused on the amount of QE2 and hinges off of a Bill Dudley speech recently given to the Society of American Business Editors and Writers. Dudley stated that "$500 billion of purchases would provide about as much stimulus as a reduction ion the federal funds rate of between half a point and three quarters of a point." They then surmised that Dudley reached this conclusion by using the Taylor Rule to approximate a neutral funds rate.

"Using core PCE as a measure of inflation, the Taylor Rule places the neutral funds rate at -1.50%...With the fed funds rate essentially at 0%, the Federal Reserve has used asset purchases as a means to further decrease rates. These purchases have created almost $1 trillion in excess reserves as of 9/22. Taking Dudley's statement at face value, $1 trillion in excess reserves has already pushed the "implied funds rate" to somewhere between -1.00% and -1.50%. A further $500 billion in QE would push the rate to somewhere between -1.50% and -2.25%." {http://www.arborresearch.com/biancoresearch/}

Ouch, especially for our market. Maybe the large ED customers have read this idea too and are hedging best they can. Can you actually get negative interest rates?

~LH