One more cartoonish moment

Found the text and made the movie!

If you need the external link, go to XtraNormal

~LH

The Panel Says

A couple weeks back we made mention of a little-noticed event that was creeping ever closer on the calendar. If you forgot, its right here {09.30.10}. The event is the final release of Obama's Committee on Deficits, however we got a sneak peak a couple days ago. {Go here to read it in its entirety}

Here's the link to the Bloomberg write up. But let me summarize a couple of points. Just as Applegate predicted, they recommended pushing the retirement age 68 and eventually 69 {even if it is as late as 2075}. The CoD suggested eliminating various tax credits or breaks on things such as mortgage interest while lowering top tier income taxes from 35% to 23%. HUH?

Yeah, not only are they suggesting that the Federal Government lower taxes to balance the budget, they have actually stuck a cap on the total amount of receipts they can collect. Yep, that's right. The Feds can only collect receipts less than 21% of GDP. Its hard to bail the water out of a sinking ship when then hull is shattered and being held together with knitting yard.

For a fantastic read on the subject matter, swing over to The Conscience of a Liberal by Paul Krugman at the NY Times. He's a better writer anyway. Just glad to say we saw part of it coming...

~LH

A former life

This is too great not to re-post!

{there is some NSFW language}

I think I've had this exact conversation...more than once!


UPDATE: Here's the QE2 version with some choice words for the Fed and "the Ber-nack"
~LH

Silence wasn't golden

In some respects, I find it very difficult to write after getting pounded. At other times, it's actually a stress-relieving endorphin that allows me to refocus my thinking.

To be blunt, some of our assumptions of the QE2 announcement and the subsequent market follow-through were just wrong.

I do want to update some of our larger trades now that we've had a rally, a pull-back, and rolled plenty of our inventory.

----------------------

In the 30 yr bonds:

We sold out of our longs in the 137 calls prior to the QE announcement.

In the March Euro Dollar:

We rolled our March 9925-9950 put spread out to the June 9925-9950 put spread. We executed near the highs of the move for a cost of 1 tick. This will provide us with 3 more months to catch the credit event we still believe is looming.

In the March and May trees:

We have covered the March and we're in the process of covering the May. We originally put the on for a credit to the 1 leg and we're now selling them for even money. This helped us finance our ED put spreads and we are actively looking for ways to get some more premium shipped in, ideally in the FFs.

The NOB is still at 25 year highs. The range on Wednesday was almost 2 points. {that's 64 ticks at a price of $156 per one lot} Though it settled off the highs, it was up over a point. At this point, we have no position on as we attempt to reload and find a position that will allow us the capture what we think is the impending flattening.

~LH

IM rants

This was just way too funny to not post.

The article in reference is from Bloomberg and you can read it for yourself right HERE

Neapolitan Man: that article, was like parents telling their teenager they are going out of town for a week and not to throw a party

LH: LOL

Neapolitan Man: it was so absurd

LH: yea, and that the key to the liquor cabinet is hid under the sink

LH: ...

Neapolitan Man: yea

Neapolitan Man: as they are pulling away the kegs and nitrous tanks are pulling up

LH: hahaha

LH: wait, what? who brings the nitrous

LH: {but it sounds awesome}

Neapolitan Man: the bankers do

Neapolitan Man: this isn't your normal kegger

Neapolitan Man: they are going to rape and pillage with 200 billion every month

LH: yea

LH: but

LH: for how long

LH: and can we assume that when they turn off the spigot

LH: the world reverts?

Neapolitan Man: i don't know, if it is up to lloyd it will go on for at least a year maybe 2

LH: damn

Neapolitan Man: the world will never be the same

On a side note. We're convinced that the one of the better plays for the next few weeks is....wait for it.....

LONG GAMMA 

By purchasing equity gamma or yield curve gamma you get the exposure to the following upcoming events:

1. First Look GDP {10/29}

2. Nov Elections {11/2}

3. Fed Meeting {11/2 - 11/3}

4. October Unemployment data {11/5}

5. Treasury Auctions {11/8 - 11/10}

6. QE2??????

~LH

Execution that hurts

Yesterday, on the 1.25 point sell off in the US {30 year} we decided to play the 'mean reversion' game and take a shot at getting long some upside calls.

We purchased the December {Z} 137 calls for 20 ticks. Our motiviation was as follows:

1. We are currently at the 60 day support level in the USZ {roughly 130}

2. We are anticipating a stock sell-off as well as the corresponding bond rally following next week's supposed QE2 announcement.

3. A trusted adviser taught me that when all else fails and you have no idea what to do, buy gamma.

{they're currently priced at 11-12}

Other things we've done or rolled out of.

1. We have taken 75% of our E0X 91-93 put spread off. We purchased it for 3.5 and have sold it for an average price of just under 5 ticks.

2. EDU v FFU, we purchased 28.5s in the spread and sold 31.5 and 32s {completely exiting the trade}

Finally, my Philosophical rail Defender alerted me to the following theory about the Nov 3rd announcement. Fascinating opinion. {this text comes directly from an IM conversation}

So here is my 10 delta prediction, {we'll get} no explicit announcement of QE, stocks tank, PIMPCO takes it on the chin and puts back {their long book of} MBS to Bank of America. The Govt does a Citi/GM style bailout with BAC. {As a result} Geithner gets ousted {and either} El Erian or Gross will move into the drivers seat at Treasury. They will then propose a bailout of state pensions via the Treasury issuing 100 year bonds at 6 pct in a swap for all pension assets. Then the Fed continues to stealthily purchase everything not nailed down.

~LH

Get Long {might be wrong}

Our markets are slow and getting increasingly cheap. A few thousand contracts here and a few hundred over there is about all we're seeing these days. ED volume has fallen to new lows in total contracts traded. It's as if the world is in a post Thanksgiving induced coma. It has been fed cheap money in infinite amounts. Now as it lays and tries to digest everything, its being lulled to sleep in an environment of sinking volatility.

I'm seen this movie before, somehow it always ends in tragedy. {However, it is only painful if you are caught holding the potato when the music stops.}

Few of the things we would like to do.

1. ZH diagonals in the TY and US. I would like to grab some cheaper gamma and finance it by selling wings. Ideally, we would like to do this with puts. Our medium term outlook {3-6 months} is that we'll stay range bound in the yield curve with moderate moves within the range that will help you to finance your decay. {Z28p v H21p gives you positive 6.5 gamma for 2.75 ticks of decay a day}In the event of a credit meltdown, we suspect the bonds will go higher, making a short longer dated call a risk to your overall position.

2. In order to capture the 'cheapness' of implied risk, we think that you're best served putting on steepeners across products in FF v ED {sell the ED and buy the FF}. Of particular interest to us is the EDU v FFU. The spread between the two of them has recent traded at its low {28} and it provides a couple of plays as we go forward. a) if the world ever gets frightened by credit risk, European or American GDP, or some other nascent economics flag you'll most likely see the EDU react in a much more violent way then the FFU. b) under current decay models, the EDZ v FFZ is at 17 with a QE2 bump priced in. This means you have a pretty solid floor at -9, though we are looking at a stop around the 24 range and an anticipated exit at 40.

3. We still like being short the NOB. If you can stomach the stress, it has a long way to fall back towards reality.

~LH

No text, just a cartoon.

 

for a bigger, cleaner, nicer version go {HERE}

~LH

Big Ben needs to be susupended

So, did you enjoy Bernanke's speech this morning? Jan Hatzius didn't, at least from a 'we need QE2' standpoint. His comments:

From Hatzius:

BOTTOM LINE: Chairman Ben Bernanke adopts a cautious approach to his speech, reiterating that he sees a case for adopting more stimulus but that any decision depends on the costs and benefits of the nonconventional policies. The speech contained few details of what form additional easing could take, although Bernanke clarifies that he regards additional asset purchases and/or a tightening of the FOMC’s guidance language as the primary tools. Overall, the speech is consistent with our expectation of a QE announcement in November.

MAIN POINTS:

1.       Chairman Bernanke re-emphasizes the FOMC’s dual mandate of attaining the longer-run sustainable rate of unemployment and mandate-consistent inflation. With regard to the former he argues that “the bulk of the increase in unemployment since the recession began is attributable to the sharp contraction in economic activity … rather than to structural factors.” Bernanke thus refutes the idea that labor market mismatch has pushed up the structural unemployment rate significantly.  Given this large amount of slack, Bernanke notes concludes that “it is reasonable to forecast that underlying inflation…will be less than the mandate-consistent inflation rate for some time.”  The tone of this speech is consistent with the "bite size" approach to asset purchases that we have come to expect in the wake of earlier speeches rather than a "big bang" approach.

2.     Given this deviation from the FOMC’s mandate he argues that “there would appear--all else being equal--to be a case for further action.” However, Bernanke is careful to stress that “possible costs must be weighed against the potential benefits of nonconventional policies.” The chairman provides few specific details but clarifies that he sees asset purchases and forward guidance as the primary unconventional tools too boost the economy. His remarks contained no comments on price level or nominal GDP level targeting.

Summarizing a complete conspiracy theorist:  Jan is saying that Ben will NOT be doing QE2 and in the process he'll "preserve some of the Fed's mystique".

I would a love a non-event QE2. Either the kind where the Fed says, "we're going to do $1 Trillion in easing and oh yea, by the way, we've already done $500 million-ish" OR the kind where they say, "you know what, we are seeing some good data leaking out of all sectors and that means we don't need stimulus!" If this was to happen, I would imagine a 2 day correction in the S&P of 5-7% with a one week target of 10-12% bottom line support. That would help explain some of the current pricing and fear in the S&P combos that are currently priced at 3.7 to 1 for the put. {ie vs 1170 in the SPX the 1075-1275 combo cost 10.75 to the put, $14.75p v $4.0c}. Market makers aren't going to let you just get long downside OTM put for nothing, you've got to pay a hefty sum for the rights of protection. Baby steps to November 2nd!

One "Ben" just came off of suspension, the market will be calling for the other one be suspended if QE2 doesn't happen!

~LH

Conversation with a King

Remember when I introduced you to the 3 Kings? They were the three champions of the bond option pit whose trading savvy and skill produced millions of dollars in profits all while taking down paper from the masters of universe {read PIMCO & Goldman Sachs}. Most of these guys have moved on to 'greener pastures' and left the pit-life to the younger kids. But traders are creatures of habit and the longer you're in the game, the harder it is to turn off the constant internal dialog that was the key .

Knowing he couldn't turn off the dialog led me to ask about our current NOB dilemma. We've struggled for the past few days to construct a trade that limits our exposure while allowing us to capture what price action we anticipate in the coming weeks. Knowing that the kings had insight and perhaps the most valuable key: trading experience, I decided to seek out that wisdom.

Interestingly, it started with a question. He asked why we thought the NOB was going to make a retracement from its new 24 year high (149 bps)? I laid out our argument and theory.

• Paper is LONG the short end of the curve and getting longer. It has been the trade of least resistance and all pushed 2 year and 5 year yields to record lows. {Our office has discussed the real possibility of the 5 year yield going to 1% for the last 3 months...its almost there}
• There aren't necessarily 'sellers' in the long end {and ultra long} rather there is just a lack of buyers with respect to the huge amount of dollars being poured into the short end.
• We believe that a prevailing opinion is that: its better to be long these securities and in the worst case scenario they will to take delivery.
• The 5-7 year future {7-10 US Notes} hold the real possibly of recovery. 
• The biggest players have started to put on yield flatterns via the option complex.

He laid out his view of the playing field. Though similar, he saw the crux point from a different angle.

• The trade has been for paper {PIMCO} to hedge all of the mortgages they've bought over the last 2 years.
• Paper sees the government as the backstop of all these mortgages and {spoiler, this has a touch of conspiracy theory to it, PrD would be proud}since there was no way for the government to actually buy all the rotting paper out there they cut PIMCO in on a very sweet deal and virtually guaranteed their principle investment.
• Paper isn't viewing the 5-7 year trade. Rather they are staking out the QE2 announcement for the correction of the current trend.
• He suggested looking back 3-4 months and see what happened as the NOB self correct from 125 down to 110.
• He envisioned a 'non announcement' on November 2nd's Fed Meeting will result in a massive sell off in the 2-7 year notes.

The question we are forced to answer is: Are we on the mountain top getting ready to ski down the double black diamond or are we at the halfway point and preparing for the assault up 29,000 feet?

Realistically, are we traders that follow the trend or look for the mean reversion? I'd argue that we're the latter. Now to craft a play.

~LH