Interest rate trading.

Overwhelming demand for 2yr. notes caught the market short yesterday. The bid – cover was a strong 3.63 to one and the buying by direct bidders was very strong. Both the 2yr. note and 10yr. note lost 10 basis points of yield on a rally that started early yesterday. Consumer confidence data specifically the present situation index came in at 20.7 versus 23 the previous month. The 20.7 was the lowest figure since the early 80’s according to analysts at Marketwatch. Expectations looking forward were off significantly as well, and all this is motivated by the outlook for jobs. This will likely set up a weak jobs report. So here is one possible scenario for price action on 10yr. treasury notes. See below. Again the dismal consumer confidence reports for employment will bias rates lower going into the  Nov. 6 employment data.

 

Longer term all that is going on is broad price action which as noted is likely filling out the right shoulder of a large Head and Shoulders top, therefore a core short position is warranted. The rallies are likely to be met with stiff selling via options trades. I will be keeping a close eye on the flows. Yesterday we did see more selling of the Dec.  10yr. 117.5 calls . That position however, is now clearly underwater, unless yields get back above 3.5% the sellers of those calls will get squeezed out. There was also additional buying of the EOZ 9775 – 9800 put spreads.

The last week did see some bets for US interest rate policy to remain unchanged, bets yesterday as noted did even see bets for the effective rate to slip under 12 basis points. To sum up.

 

Ø Weak shorts and level of Fed Fund futures contracts and options on those contracts look for Fed policy to remain unchanged - bullish

Ø Recent stories on changes to the Fed’s Policy statement had spurred a lot of speculation for rates to move higher going forward - bearish

Ø Commodity based economies Australia and likely to be followed by Norway today are raising - rates neutral to bearish

Ø Stock market has been down 5 of the last 6 sessions and some indicators are at oversold levels meaning any further downside is probably limited and an upside reversal is quite likely – potentially bearish short term moving forward.

Ø Flows in the short end have moved from quite bearish to mixed over the last week.