Positions update and a 'Fed Put' thought
it gets worse before Fed forced to make it better (but will they have capacity?)
First from my go to source for a look at rates positions (shorts building noted HERE and HERE), today points out what may be responsible for SOME of the post CPI bid.
>>> UST - Short Build: $56m shorts (11bps profits) vs $35m longs (21bps loss)
Market flows switching into covering shorts in 10y and build into flattener (against recent thematic of new short/long liquidation). Structurally, positioning remains light at $20m (in both current / legacy setup) with long losses offset by short profits.
So is the market short? Short term flows are driving price action 1mth positioning extended short at $35m and highly skewed to the short side. Meanwhile into the richening, short side profits are all being squeezed with short profits collapsing by 10bps.
Capacity for the market to squeeze richer? Current setup suggests this is limited given more benign positioning in longer term metrics (futures/cash/swap). This matches the flows we saw post CPI with the market buying into cheapening pre CPI (profit taking), only to add to shorts post the consensus CPI print. Critical levels? In 10y TYs fast short side profits start to be squeezed above 128-30 and move offside at 129-24.
Those levels are roughly noted below here with my limited capacity
As usual, THEY do a much better job than I ever could and to that,
So where are the risk in USTs? We see the build of shorts has occured over the last month (to more than $35m/-2.5 z-score) and profits are building on these positions. Into the recent richening profit are being squeezed with PnL melting away to less than 15bps.
This shorter-term attention to detail aside, a German bank analyst note arrived and appears to be an effort to reset bar of Fed Put expectations …
The Fed's put is far away
Over the last few months, the Fed has played catch-up and signalled a more aggressive policy tightening as we advocated in our outlook. The more assertive Fed has led many to draw a parallel with 2018. Back then, the Fed was pressing ahead with its rate hikes throughout the year, before being forced to make a U-turn at a later stage.
We compare the situation today with early 2018 and conclude that current market pricing is further away from the conditions that led to the Fed U-turn. Moreover, the Fed is further behind the curve relative to its dual mandate as evidenced by significantly higher wage inflation. This should imply that the Fed's proverbial put is further out-of-the-money. More broadly, fiscal tightening after the midterm elections remains the main downside risk to higher rates.
The Fed is far from the conditions that triggered the U-turn in late 2018
There are other analogs of course BUT I’d be spreading misinformation here if I didn’t say that 2018 does present the most funTERtaining set of baseline measures. Perhaps it’s recency bias at work … be that as it may, the Fed Put is far from being triggered … in other words, nothing has broken, yet.