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10-year Treasury Yield Surging ahead last FOMC in 2024After a politically charged November, bond markets have shifted their gaze back to economic fundamentals, setting the stage for a crucial Federal Reserve meeting on December 17. Recent data—including a robust jobs report and rising inflation—have reignited debates over long-term yields and the Fed’s future rate trajectory. With the Fed’s dot plot and 2025 outlook in focus, the bond yield rallies ahead of the meeting reflects heightened anticipation of pivotal policy signals. This piece unpacks the dynamics driving Treasury yields and explores a potential trade setup deploying CME Yield futures to navigate the unfolding market environment. MARKETS ARE FOCUSSING ON ECONOMIC DATA AGAIN In November, U.S. Treasury yields were more influenced by political factors than by economic data. The 10-year Treasury yield remained largely unchanged after the 13/Nov CPI report, which showed headline CPI rising to 2.6% year-over-year in October, up from 2.4% in September. While the higher inflation suggested potential risks to bond yields—given that prolonged inflation could lead the Federal Reserve to slow its pace of rate cuts—Treasury yields were mostly unaffected by the data. Instead, yields declined sharply when markets opened on November 25, following President Trump’s announcement of Scott Bessent as his pick for U.S. Treasury Secretary. Bessent, a fund manager, is anticipated to prioritize tax cuts and fiscal caution. The announcement drove the 10-year Treasury yield nearly 30 basis points lower over the next week, reaching its lowest level in over a month. In the past two weeks, however, market focus appears to have shifted back to economic data. The non-farm payrolls report for November, released on December 6, exceeded expectations with 227,000 jobs added. Additionally, October’s dismal figure of 12,000 jobs was revised upward to 36,000, providing further support to the positive sentiment. The improved jobs report soothed investor concerns, signalling that the state of the US economy may not be as bad as previously perceived. The jobs report eventually drove a 5-basis point recovery over the following week. The latest CPI report for November also reaffirmed the trend that investors were focussing attention on economic data as 10Y yields surged after the report, rising nearly 19 basis points from the 09/Dec low. 10Y-2Y spreads have also surged by 8 basis points since 09/Dec. Investors can monitor the yield spreads using CME’s Treasury watch tool . Source: CME TreasuryWatch The tool can also be used to monitor the yield curve. Over the past month, the decline in Treasury yields has been concentrated in shorter-term tenors (2Y, 3Y, and 5Y), while the 30Y yield has remained largely unchanged. In contrast, the increase in yields over the past week has been more uniform across all tenors. Source: CME TreasuryWatch The November report showed inflation rising even further to 2.7%, although in-line with expectations, it suggests that inflation may be more persistent than previously perceived. This has led to expectations of a higher inflation premium for long-term treasuries which may have contributed to the rally in 10Y treasury yields. FED DOT PLOT REMAINS THE HIGHLIGHT NEXT WEEK Markets are almost certain of a 25-basis-point rate cut at the FOMC meeting on 17/Dec, with FedWatch indicating a 97% probability of this outcome as of 16/Dec. However, the primary focus will likely be on the Fed's guidance for the rate trajectory in the coming year. Alongside the rate decision, the Fed is expected to release its dot plot and summary of economic projections at the December meeting. The December meeting is crucial as participants closely monitor the outlook for 2025. At last year’s December meeting, the Fed projected significant rate cuts in 2024, which triggered a substantial equity rally and a decline in bond yields. Source: CME FedWatch Per CME FedWatch, market participants expect an additional 50 basis points of rate cuts in 2025. However, the Fed's September dot plot indicated expectations for 100 basis points of cuts in 2025. If the December dot plot reaffirms the projection of 100 basis points, bond yields could decline sharply. Source: Federal Reserve BOND YIELDS HAVE RALLIED HEADING INTO THE MEETING IN THE PAST The 10-year Treasury yields have rallied ahead of three of the last four FOMC meetings, with the increases notably concentrated in the three days leading up to the meetings. Given the recent trajectory of 10-year yields, a similar pattern may be likely this time. The 10Y-2Y spread has shown a similar trend, increasing ahead of the last three FOMC meetings. However, following the November meeting, the 10Y-2Y spread declined. This suggests it may be prudent to position ahead of the meeting to mitigate potential post-meeting volatility. Hypothetical Trade Setup Market participants are nearly certain of a rate cut at the upcoming FOMC meeting, but the summary of economic projections is likely to carry greater significance. Currently, market expectations for rate cuts in 2025 are more conservative than the Fed's previous dot plot. If the Fed reaffirms expectations for more aggressive rate cuts next year, bond yields could sharply reverse their two-week rally. While the 10-year yield outlook remains uncertain and subject to risk, the 10Y-2Y spread has a more optimistic trajectory. The spread stands to benefit from expectations of further rate cuts and its ongoing normalization trend. Additionally, historical trends suggest that positioning before the FOMC meeting may be advantageous, as the spread corrected after the last meeting. Investors can express a view on the steepening of the 10Y-2Y yield spread using CME yield futures. CME Yield Futures are quoted directly in yield with a 1 basis point (“bps”) change representing USD 10 in one lot of Yield Future contract. This simplifies spread calculations with a 1 bps change in spread representing profit & loss of USD 10. The individual margin requirements for 2Y and 10Y Yield futures are USD 330 and USD 320, respectively, at the time of writing. However, with CME’s 50% margin offset for the spread, the required margin drops to USD 325 as of 16/Dec, making this trade even more compelling. The below hypothetical trade setup provides a reward to risk ratio of 1.94x: Entry: 13.5 basis points Target: 30 basis points Stop Loss: 5 basis points Profit at Target: USD 165 (16.5 basis points x USD 10) Loss at Stop: USD 85 (8.5 basis points x USD 10) Reward to Risk: 1.94x MARKET DATA CME Real-time Market Data helps identify trading set-ups and express market views better. If you have futures in your trading portfolio, you can check out on CME Group data plans available that suit your trading needs tradingview.com/cme . DISCLAIMER This case study is for educational purposes only and does not constitute investment recommendations or advice. Nor are they used to promote any specific products, or services. Trading or investment ideas cited here are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management or trading under the market scenarios being discussed. Please read the FULL DISCLAIMER the link to which is provided in our profile description.
CBOT_MINI:10Y1!Long
by mintdotfinance
Yield Curve Reinverts on Easing Rate Cut ExpectationsFed sets the rates. Rates guide treasury yields. Fed remains data dependent. Incoming data creates nuanced shifts in yield spreads. The September jobs report revealed 254,000 jobs added, significantly exceeding expectations of 147,000, with August figures also revised upward. This strong report, along with the JOLTS data from earlier in the week, indicates that the job market remains strong and not as weak as previously anticipated. Despite the strong jobs data, the yield curve has inverted once again. While Mint Finance has previously highlighted that recession risks can lead to the yield curve inverting, that is not the only reason. This time around, the inversion is being driven by delay in rate cut expectations. CME’s Yield Futures enables investors to deftly express their views on the path of rates ahead. JOB MARKET SHOWS MIXED SIGNS OF RECOVERY The latest JOLTS figures showed U.S. job openings rising from 7.711 million to 8.090 million in August, with the previous month's numbers revised up by 38,000. Although job openings remain near a two-year low, the increase is a positive sign. Rise in job openings was primarily due to increase in construction jobs (+138k), which are often seasonal, and government jobs (+103k). However, the overall report paints a mixed picture. Hiring fell by 99k from the previous month, and while total separations dropped by 317,000, the largest contributor was a 159,000 contraction in quits. With fewer hires and a large drop in quits, the data suggests the job market is not particularly strong, as workers hesitate to leave their current positions with fewer being hired into new roles. The Non-Farm Payrolls (NFP) showed 254,000 jobs added in September, with health care, social assistance, and leisure and hospitality sectors leading the gains. As a result of these additions, the unemployment rate eased to 4.1%. Hourly earnings grew by 4% YoY, with the previous month's figures revised upward to 3.9%. RATE CUT EXPECTATIONS TEMPER Further rate cuts are still expected, but the anticipated pace has slowed. Before the PCE inflation report on September 27, CME FedWatch indicated a cumulative 75 basis point reduction over the next two FOMC meetings in November and December. Source: CME FedWatch CME FedWatch tool also indicated a high probability of 100 basis-point cuts last month. However, after the encouraging PCE report, which showed inflation easing to 2.2%—its lowest level since 2021 and close to the Fed's target—the probability of a cumulative 50 basis-point cut has steadily risen. Following the jobs report last week, the probability of cumulative 50 basis-points cuts surged to 80%. The trend suggests that market participants are increasingly expecting a soft landing, with inflation easing and the job market remaining strong. A soft landing reduces the urgency for aggressive rate cuts, giving the Fed more flexibility to monitor the effects of previous rate hikes and lower rates more gradually. Source: CME FedWatch Crucially, Fed Chair Jerome Powell has suggested a similar outlook for rate trajectory. While speaking at the National Association for Business Economics, he suggested that if the economy continues on its current trajectory, he expects two more smaller rate cuts this year, or cumulative rate cuts of 50 basis points at the next two meetings. FOMC projections also signalled a similar rate outlook for 2024 as signalled by the dot plot below. Source: FOMC YIELD CURVE RE-INVERTS Bond yields have increased sharply to their highest level since August on tempered rate cut expectations. Crucially, the increase has been much sharper for the 2-year yields indicating near-term expectations of elevated rates for longer. The result has been a re-inversion in the yield spread with 2-year & 10-year treasury yields now on par. Notably, the yield futures spread has declined more sharply than the treasury yield spread. HYPOTHETICAL TRADE SETUP Recent economic data points to rising likelihood of a soft landing. Expectations of rapid rate cuts have tempered accordingly. While rates are expected to continue declining, the pace is expected to slow with a cumulative 50 basis points (“bps”) of further cuts in 2024 likely. As rates remain elevated for an extended period, the yield curve has begun to invert again. With current inflation easing, the inflation premium on long-term treasuries has diminished. FOMC projections suggest a gradual path toward rate normalization, suggesting a potential near-term yield curve inversion before it eventually normalizes. Investors can express views on this outlook through CME yield futures. Further, the yield futures spread is trading at a (~5bps) premium to the treasury yield spread, as the futures contracts approaches expiry on October 31, the futures spread will converge towards the treasury yield spread which further benefits the short position. CME Yield Futures are quoted directly in yield with a 1 basis point (“bp”) change representing USD 10 in one lot of Yield Future contract. This simplifies spread calculations with a 1 bp change in spread representing profit & loss of USD 10. The individual margin requirements for 2Y and 10Y Yield futures are USD 330 and USD 320, respectively. However, with CME’s 50% margin offset for the spread, the required margin drops to USD 325 as of October 8, making this trade even more compelling. A hypothetical trade setup comprising of long 2Y yield October futures and short 10Y yield October futures with reward to risk ratio of 1.5x is described below. Entry: 13.5 bps Target: -1.5 bps Stop Loss: 23.5 bps Profit at Target: USD 150 (15 bps x 10) Loss at Stop: USD 100 (10 bps x 10) Reward/Risk: 1.5x MARKET DATA CME Real-time Market Data helps identify trading set-ups and express market views better. If you have futures in your trading portfolio, you can check out on CME Group data plans available that suit your trading needs tradingview.com/cme . DISCLAIMER This case study is for educational purposes only and does not constitute investment recommendations or advice. Nor are they used to promote any specific products, or services. Trading or investment ideas cited here are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management or trading under the market scenarios being discussed. Please read the FULL DISCLAIMER the link to which is provided in our profile description.
CBOT_MINI:10Y1!Short
by mintdotfinance
FOMC Showdown Poised to Ignite a Surge in Yield SpreadsWith inflation finally cooling and the Fed signaling rate cuts, it seems relief is on the horizon—until you look at the job market. As recession risks grow and Treasury yields falter, a steepening yield curve presents a compelling opportunity. Positioning in the yield curve ahead of the FOMC meeting offers a more measured way to navigate the uncertainty. COOLING CPI SIGNALS GREEN LIGHT FOR RATE CUTS This week’s inflation report showed headline CPI cooling to 2.5%, the lowest since February 2021. With this release, inflation has finally fallen decisively below the stubborn 3% mark and is now just 0.5% above the Fed’s target range. PCE inflation reflects similar levels, likely giving the Fed the signal to start cutting rates. JOB MARKET REPRESENTS MATERIAL RECESSION RISKS Recent job market data suggests it may be too soon to declare a soft landing. The labor market is significantly weakening, and with household savings dwindling and credit delinquencies increasing, conditions may worsen before improving. U.S. economic data from the past week indicates that the labor market is in a precarious situation. The August JOLTS report showed job openings dropping to their lowest since early 2021, reflecting decreased labor demand, while unemployment edged up slightly. Additionally, the August jobs report revealed a modest gain of 142,000 non-farm jobs, falling short of expectations, with downward revision for July bringing those figures down to just 89,000. As covered by Mint Finance previously a recession is likely to lead to a sharp steepening of the yield curve. We covered average levels of the yield spread at the start of recessions in detail previously, but in summary with the current 10Y-2Y spreads at 15 basis points, there may be up to 85 basis points of further upside in the spread. TREASURY YIELD PERFORMANCE Despite a short recovery following the ominous jobs report on 2/August, Treasury yields have continued to decline. Unsurprisingly, short-dated treasuries have underperformed as 2Y yields are 27 basis points lower, while 30Y yields have only declined by 12 basis points and 10Y by 15 basis points. Overlaying yield performance with economic releases, the largest impact on yields over the last few months has been from FOMC releases and non-farm payrolls while performance around CPI releases has been mixed. Potentially suggesting traders are more concerned about recession risk than moderating inflation. OUTLOOK FOR SEPTEMBER FOMC MEETING Source: CME FedWatch FedWatch currently suggests that a 25 basis point rate cut is more likely in the upcoming FOMC meeting scheduled on September 17/18. However, probabilities of a 50 basis point rate cut are also relatively high at 43%. Source: CME FedWatch While the odds of a 25 basis point cut have remained in majority, the 50 basis point cut has been uncertain with probability shifting over the past week. FOMC meetings have driven a rally in yield spreads over the past year. With FOMC meeting slated for next week, it is interesting to note that performance in yield spread prior to meetings has been more compelling than performance post-FOMC meeting. Over the last 5 meetings, pre-FOMC meetings, the 10Y-2Y spread has increased by 4 basis points. Performance is even more compelling in the 30Y-2Y spread which has increased by an average of 13 basis points. AUCTION DEMAND FAVORS 10Y Recent auction for 10Y treasuries indicated strong demand with a bid/cover ratio of 2.64, which is higher than the average over the last 10 auctions of 2.45. Contrastingly, the 30Y auction was less positive with a bid/cover ratio of 2.38, below the average of 2.42. 2Y auction was sharply weaker with a bid/cover of 2.65 compared to average of 2.94. Auction uptake suggests higher demand for 10Y treasuries than 30Y treasuries and fading demand for near-term 2Y treasuries. HYPOTHETICAL TRADE SETUP Recent economic data has made an upcoming rate cut nearly certain. However, the size of the cut remains unclear. CME FedWatch currently indicates a 42% probability of a larger 50-basis-point cut, driven by the recent CPI report and weak jobs data. With rising recession risks, the Fed might opt for a larger rate cut. However, if they choose a moderate 25-basis-point cut, market sentiment could stabilize. Historically, yield spreads around FOMC meetings suggest that positioning before the meetings tends to be more advantageous than after. This is especially relevant now, as moderating sentiment from a 25-basis-point cut could trigger a temporary reversal in yield spreads. Considering the underperformance of the 10Y-2Y spread in September and increased auction demand for 10-year Treasuries, a long position in the 10Y-2Y spread may be the most favorable strategy for gaining exposure to the steepening yield curve. Investors can express views on the yield curve using CME Yield Futures through a long position in 10Y yield futures and a short position in 2Y yield futures. CME Yield Futures are quoted directly in yield with a 1 basis point change representing USD 10 in one lot of Yield Future contract. This makes spread calculations trivial with a 1 basis point change in spread representing PnL of USD 10. The individual margin requirements for 2Y and 10Y Yield futures are USD 330 and USD 320, respectively. However, with CME’s 50% margin offset for the spread, the required margin drops to USD 325 as of September 13, making this trade even more compelling. A hypothetical trade setup offering a reward to risk ratio of 1.46x is provided below: Entry: 14.2 basis points Target: 35 basis points Stop Loss: 0 basis point Profit at Target: USD 208 (20.8 basis points x 10) Loss at Stop: USD 142 (14.2 basis points x 10) Reward to Risk: 1.46x MARKET DATA CME Real-time Market Data helps identify trading set-ups and express market views better. If you have futures in your trading portfolio, you can check out on CME Group data plans available that suit your trading needs tradingview.com/cme . DISCLAIMER This case study is for educational purposes only and does not constitute investment recommendations or advice. Nor are they used to promote any specific products, or services. Trading or investment ideas cited here are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management or trading under the market scenarios being discussed. Please read the FULL DISCLAIMER the link to which is provided in our profile description.
CBOT_MINI:10Y1!Long
by mintdotfinance
Rapid Yield Curve Inversions as Recession Fears RealizedLast week was pandemonium for US Equities, Japanese Equities, Foreign Exchange markets, Cryptocurrency markets, and Bond markets. Yet, for those positioned for the normalization of the yield curve, results are apparent as the curve has officially normalized into positive territory with a sharp recovery on Friday which continued into Monday. The non-farm payroll report highlighted concerns we previously illustrated that a recession is not off the cards yet. In fact, the latest data suggests it may be likely. The Sahm rule, a strong indicator of past recessions, was activated based on the latest jobs data. Given the possibility of a recession in the US, the further steepening of the yield curve remains a compelling opportunity with uncertainty persisting across all areas of the market. This paper provides a hypothetical trade setup in the 10Y-2Y spread to gain exposure to normalization. LATEST JOB REPORT WAS DISMAL WITH LOW JOBS ADDED, RISING UNEMPLOYMENT The Nonfarm payroll report from July showed a meagre 114k jobs added compared to expectations of 176k. Even worse, figures for May and June were revised lower by a cumulative 29k bringing the updated figures well below the initial analyst consensus for these months. Job addition in July was one of the lowest since the pandemic. Moreover, both initial and continuing jobless claims last week rose to their highest level since 2021. Combined effect on the job market was an increase in the unemployment rate to 4.3%, the highest since 2021. The job market is visibly weakening. Though the effect of Hurricane Beryl likely played a role in the dismal jobs report, the details suggest systemic weakening as both hiring and quits fell to their lowest level since 2020. To make matter worse, conditions may worsen even further in the coming months as Intel announced plans to reduce its workforce by 15k at its most recent earnings. JOBS REPORT TRIGGERS SAHM RULE The Sahm rule is a recession indicator used to identify early signals of a recession. It measures the difference between the current unemployment rate relative to the lowest three-month average in the last 12 months. According to the Sahm Rule, a recession could be on the hoirzon when this value rises above 0.5, Currently, the indicator is at 0.53. It is a highly accurate indicator, proven to be reliable through the last 12 recessions when the indicator was at present values. While no indicator is completely accurate and past results do not guarantee future performance, the accuracy of the indicator should not be ignored. RATE CUT EXPECTATIONS SURGE As a result of the dismal jobs report, rate cut expectations have surged, largely due to expectations that the Fed will be forced to cut rates rapidly in response to a faltering economy. For reference, at the September policy meeting, FedWatch signals a >90% probability of 50 basis point cuts. Just 1 week ago, FedWatch suggested a 10% probability for that decision. Source: CME FedWatch Markets are also expecting a 50-basis point cut at the November meeting followed by a 25-basis point cut at the December meeting for a cumulative cut of 125 basis points in 2024. Source: CME FedWatch BOND MARKETS IN TURMOIL BUT YIELD SPREAD SURGED Due to the rapid reversal in sentiment, US treasury yields have fallen sharply. 2Y yield is 15% lower over the past week. 10Y yield has declined by 10% and 30Y yield has fallen by 8%. On Friday, the decline in 2Y yield was the sharpest since 13/December when the Fed policy projections suggested up to six rate cuts in 2024. This time around, the decline in bond yield has been driven by market fears of a recession which may force the Fed to cut rates rapidly. While the yields have declined sharply, yield spreads have surged. The 10Y-2Y spread has increased by 27 basis points over the past week with a 10-basis point jump on Friday followed by another 8 basis points increase on Monday. The 30Y-2Y spread has been the strongest performer. It has increased by 63 basis points over the past week. It surged by 29 basis points on last Friday and another 14 basis points on Monday. Both spreads have now normalized as 2Y yield has declined much more sharply than 10Y and 30Y yield. The normalization has brought to end the longest yield curve inversion in history that lasted more than two years. This is not unexpected as highlighted by Mint Finance in a previous paper . The yield spread tends to normalize long before a recession actually arrives. However, the spread may rise further. According to historical levels of the 10Y-2Y spreads at the start of previous recessions, there is between 15 and 100 basis points of further upside. The potential for upside is even higher on the 30Y-2Y spread although in 1989, the level was lower than the current level suggesting the risk of a decline. LONG 10Y SHORT 2Y ON FURTHER NORMALIZATION While the movements in the yield spreads over the past week have been enormous, there is a potential for further increase. Recession signals are flashing red. Equity markets are in turmoil. Fed may be forced to reduce rates to support a weak job market. Rapid rate cuts and a recession support further steepening of the yield curve. Historical performance of yield spreads prior to recessions suggests the yield curve may continue to steepen at a rapid rate. We had previously suggested the 30Y-2Y spread as a superior instrument to express views on this normalization. However, the 30Y-2Y spread has surged by 63 basis points in the past week. While it may continue to rise even further, there is a risk that markets have exhausted much of the upside. A position on the 10Y-2Y spread offers potentially higher upside. The 10Y-2Y spread is just above the level of 0 indicating the potential for further recovery. The current 10Y-2Y spread level is far below the levels at the start of previous recessions. Investors can seize opportunities from normalization in the 10Y-2Y spread using CME Yield futures. The CME Yield futures are quoted directly in yield with a one basis point change in the yield representing a P&L of USD 10. The below hypothetical trade setup consisting of long 10Y yield futures and short 2Y yield futures expresses a view on the further steepening of the yield spread with a reward to risk ratio of 1.3x. Entry: 3.7 Target: 27.8 Stop Loss: -15 Profit at Target: USD 241 ( (27.8 – 3.7) x 10 = 24.1 x 10) Loss at Stop: USD 187 ( (-15 – 3.7) x 10 = -18.7 x 10) Reward to Risk: 1.3x MARKET DATA CME Real-time Market Data helps identify trading set-ups and express market views better. If you have futures in your trading portfolio, you can check out on CME Group data plans available that suit your trading needs www.tradingview.com DISCLAIMER This case study is for educational purposes only and does not constitute investment recommendations or advice. Nor are they used to promote any specific products, or services. Trading or investment ideas cited here are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management or trading under the market scenarios being discussed. Please read the FULL DISCLAIMER the link to which is provided in our profile description.
CBOT_MINI:10Y1!Long
by mintdotfinance
Front-Running Yield Curve Normalisation on Rate Cut AnticipationThe (in)famous Yield Curve remains inverted. In recent past, spreads normalized only to revert to inversion as rate cut expectations got pushed out. This time though, is different. Recent CPI print has significantly altered market sentiment. The likelihood of an initial rate cut at the September FOMC meeting now exceeds 90%. Consequently, the yield curve is normalizing once more. Current market signals indicate that this normalization could be enduring. WHY IS THE YIELD CURVE INVERTED? The present yield curve inversion indicates that investors do not expect that rates will remain this elevated for long. While 2Y treasuries continue to be re-issued at higher rates, expectations for longer terms such as 10Y and 30Y are lower as they factor in that rates will normalize from their present levels. YIELD CURVE WILL NORMALIZE SOON, WHAT WILL DRIVE IT? While this is the longest period of yield curve inversion in history, the curve has started to normalize. The factors driving normalization in the yield curve were previously discussed. Ordinarily investors demand higher rates for longer-duration treasuries to account for the higher inflation expectations and greater risk. Either inflation must fall, or inflation adjusted treasury yields for longer maturities must rise. Rate cuts will also drive the normalization in the yield curve. The yield spread between 2Y & 10Y treasuries tends to rise in the two months preceding the first rate cut in a cutting cycle as observed in the past. The impact of rate cuts on the 2Y-10Y spread is even more pronounced in the two months following the first-rate cuts. UNCERTAINTY IN MACRO ECONOMIC DATA IS DISSIPATING Make no mistake, the broader picture remains uncertain. However, recent data points to recovery. Chicago PMI showed a sharp recovery in July. But the job market signals uncertainty. Continuing jobless claims remain elevated. Job openings have fallen. But job creation in the last two non-farm payroll prints were above expectations. US Retail sales and industrial production have improved. The impact can be observed through the consistent increase in the GDPNow forecast for Q2 GDP since 12/July. Source: GDPNow The June CPI release showed uncertainty easing. Headline CPI cooled sharply as it fell on a MoM basis. Notably, the stickier core CPI also continued to cool as it fell to 3.3%. However, inflation remaining sticky at the 3% level remains a grave concern. Even if a recession does arrive in the coming months, the 10Y-2Y yield spread is likely to have normalized by then. Yield curve inversion is observed only before recessions not during. RAPID RATE CUTS EXPECTED IN THE COMING YEAR Source: CME FedWatch The rate cuts outlook has improved substantially. FedWatch signals that rates will fall by 100 basis points by March 2025 (as of 19/July) suggesting successive cuts. Other analysts are even more optimistic. Analysts at Citi bank hold the view that rates will be slashed by 200 bps (2% in total), starting in September across eight successive FOMC meetings (25 bps at each) by the summer of 2025. CERTAINTY IN RATE OUTLOOK SUGGESTS YIELD CURVE NORMALIZATION Major moves in the yield curve have only come through after commencement of rate cuts in the past. This time, markets may front-run these expectations. The attempts to front-run rate cuts were already observed in December when the yield spread recovered sharply after the Fed signaled six potential rate cuts in 2024. Presently, the 10Y-2Y yield spread is trading below those levels and has the potential to break out as we approach September rate cuts. The risk of a reversal remains but it is lower. Higher rates pose a systemic risk for the US given its profligate borrowing. Higher rates on treasuries are untenable for much longer. Cost of servicing public debt in June hit USD 140 billion and totaled USD 868 billion in the first nine months of the current fiscal year (33% higher YoY). For reference, the total budget deficit for this period was $1.27 trillion. The interest burden is weighing heavily on the overall budget deficit. HYPOTHETICAL TRADE SETUP Treasury auctions are a sound guide to maturities selection when positioning for yield curve normalization. The recent demand for treasuries at the latest auctions has been low. Bid-to-cover ratio for all (2Y, 5Y, 10Y, and 30Y) was lower than the average bid-to-cover over the prior ten auctions. Demand was weak for the 10Y treasuries. Demand for 30Y treasuries has also been lower than previous auctions but has remained more consistent than 10Y. The yield spread between 30Y-2Y treasuries has outperformed the 10Y-2Y spread over the past 2 months. Investors can seize opportunities from normalization in the 30Y-2Y spread using CME Yield futures. The CME Yield futures are quoted directly in yield with a one basis point change in the yield representing a P&L of USD 10. As yield futures across various maturities represent the same notional, to calculate the spread P&L is equally intuitive with a one basis point change in the spread between two different maturities also equal to USD 10. The hypothetical trade setup consisting of long 30Y and short 2Y is described below. • Entry: -2.6 basis points (bps) • Target: +25 bps • Stop Loss: -25 bps • Profit at Target: USD 276 (27.6 bps x USD 10) • Loss at Stop: USD 224 (22.4 bps x USD 10) • Reward to Risk: 1.24x MARKET DATA CME Real-time Market Data helps identify trading set-ups and express market views better. If you have futures in your trading portfolio, you can check out on CME Group data plans available that suit your trading needs www.tradingview.com DISCLAIMER This case study is for educational purposes only and does not constitute investment recommendations or advice. Nor are they used to promote any specific products, or services. Trading or investment ideas cited here are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management or trading under the market scenarios being discussed. Please read the FULL DISCLAIMER the link to which is provided in our profile description.
CBOT_MINI:30Y1!Long
by mintdotfinance
What Next For The Inverted Yield Curve?Markets are notorious for exaggerated expectations. They sense a tiger when all they see is a cat. Expectations on rate cuts have been no different. Despite the Fed’s speak on measured changes to policy rates, markets got ahead of themselves since late last year. Markets are now starting to align their expectations with reality. US economic data from January stands in stark contrast to December readings. Nonfarm payrolls and CPI are higher than expectations. A resilient economy and rebound in inflation have pushed expectations of rate cuts to much later this year. According to the CME Group FedWatch tool, the probability of a rate cut at the March FOMC policy meeting dropped from 73% on 29 Dec 2023 to merely 8.5% as of 19 Feb 2024. First rate cut is now expected at the 12 June policy meeting this year. Markets are now pricing four rate cuts instead of six cuts as previously anticipated. Shift in rate cut expectations has led to a rebound in US treasury bond yields. This paper delves into the factors behind the shift in rate expectations. The paper also analyses a hypothetical trade setup using CME Group Yield futures that investors can deploy to harness gains from revised policy path ahead. RATE CUT EXPECTATIONS IS BECOMING MORE ROOTED IN REALITY NOW A stream of recent economic data from the US has pointed to a stronger economy and a rebound in inflation, causing rate cut expectations to shift. January nonfarm payrolls report showed 353k jobs added, exceeding expectations of 333k and the largest build since January 2023. January CPI report showed annual CPI growth slow from its pace of 3.4% in December 2023 to 3.1% in Jan 2024 but still hotter than analyst expectations of 2.9%. Core CPI was another concern as it stood unchanged at 3.9%. On a monthly basis, CPI jumped 0.3% MoM. 0.6% MoM increase in rent prices and 0.4% increase in food prices were behind the monthly increase. On the positive front, PPI fell 0.1% MoM in January, with goods prices 0.4% lower. PPI is just 1% higher YoY against an estimate of +1.3% estimate. January Retail Sales fell sharply by 0.8% MoM in January. December growth was revised lower from +0.6% to +0.4%. This is expected to lead to a lower GDP growth in Q1. GDPNow model from the Atlanta Fed predicts 2.9% growth in Q1, compared to 3.4% before the release. As a result of the broadly stronger data and higher inflation, expectations of rate cuts at the 20/March FOMC meeting have fallen from their peak of 74% on 29 December 2023 to 8.5% as of 19 February 2024. Expectations for a rate cut by May have also been scaled back. As of 14 Feb 2024, there is just 35% probability of a rate cut at the 01 May FOMC meeting as well. Source: CME Group FedWatch FedWatch indicates 50% probability of a rate cut for the meeting on 12 June 2024, which is up from 40% a week ago. Source: CME Group FedWatch The increase reflects the recent retail sales and jobless claims data that was stronger than expected. Both have led to a pullback in bond yields from their 2024 highs. Source: CME Group FedWatch The CME Group FedWatch tool indicates expectations of four rate cuts in 2024 as of 18/Feb down from six cuts at the start of the year. The expectations around rate cuts have also shifted in Fed’s messaging. Atlanta Fed President Raphael Bostic stated that the Federal reserve does not face any urgency in cutting rates due to the current strength in the US economy. Dallas Fed President, Lorie Logan, shares similar sentiments . Fed Chair Powell echoed the same message. Powell stated the Fed won’t cut rates until it has greater confidence that inflation is moving sustainably to its target. Specifically, he mentioned that a rate cut was unlikely by March. In an interview with “60 Minutes”, Powell suggested that Fed’s base case scenario of 75 basis points of rate cuts in 2024 was unchanged. As a result of delayed rate cuts expectations, US treasury yields have rebounded. FOMC MINUTES TO REITERATE HAWKISH POSTURE Strong economic data and inflation numbers coming in hotter than expected will keep the Fed hawkish in the near term. How long will be anybody's guess? On 21/Feb (Wed), minutes of the FOMC January meeting will be published. Expectations are for Fed to reiterate its hawkish posture. In anticipation, the 2-year yield futures are up forty-nine basis points (bps) to close at 4.601% as of 16/Feb (compared to 4.112% close of markets on 1/Feb). Meanwhile, during the same period, the 10-year yield futures jumped forty-five bps to close at 4.295% as of close of markets on 16/Feb. Taking directional views on the 2-year or the 10-year yields can be difficult when rate expectations are already baked into the yields. Directional views expose the trade to large downside risks vastly reducing reward-to-risk ratio. In sharp contrast, spread trades enables trades to lock in gains while minimizing downside risks. This paper illustrates a hypothetical treasury spread trade below. HYPOTHETICAL 10Y-2Y TREASURY SPREAD TRADE Portfolio managers can better harvest gains from rate moves by trading the closely monitored US Treasury yield spread measuring the gap between yields on 2-year & 10-year Treasury notes. FOMC minutes reiterating a hawkish posture will invert the yield curve even more. To help traders monitor this spread, the CME Group publishes a Micro Treasury CurveWatch tool which shows daily, weekly, and monthly changes in yields and major yield spreads. Source: Micro Treasury CurveWatch tool Portfolio managers can express this view by taking a short position in the CME Group 10-Year Yield Futures (10YG4) and a long position in the CME Group 2-Year Yield Futures (2YYG4). ● Entry: -0.2790 (27.9 bps; enter the spread trade when 10YG4 minus 2YYG4 is -0.2790 bps) ● Target Exit: -0.3690 (36.9 bps) ● Stop Loss: -0.2250 (22.5 bps) ● Profit at Target: USD 90 (9 bps x USD 10) ● Loss at Stop: USD 54 (5.4 bps x USD 10) ● Reward to Risk: 1.66x MARKET DATA CME Real-time Market Data helps identify trading set-ups and express market views better. If you have futures in your trading portfolio, you can check out on CME Group data plans available that suit your trading needs www.tradingview.com DISCLAIMER This case study is for educational purposes only and does not constitute investment recommendations or advice. Nor are they used to promote any specific products, or services. Trading or investment ideas cited here are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management or trading under the market scenarios being discussed. Please read the FULL DISCLAIMER the link to which is provided in our profile description.
CBOT_MINI:10Y1!Short
by mintdotfinance
Another Inverted Yield Curve with Even More Predictive PowerThe Federal Reserve Chair Jerome Powell spoke again today at a Brookings Institution event. His comments sparked a rally in markets (likely including short covering) that pushed the S&P 500 SP:SPX up about 122 points, or 3.10%, to close at 4080. The Nasdaq 100 NASDAQ:NDX rose 4.58% on the day, closing at 12,030. But the bond market is sending less sanguine signals. The 10Y/3M yield curve inverted further today. Its inversion is currently the deepest since the slightly deeper inversion of this segment of the yield curve in 2000-2001 inversion, which had presaged the 2-year bear market from 2000-2002. The 10Y/3M curve has been researched more than the more widely known 10Y/2Y curve (also known as the 10s/2s). Experts say inversions of the 10Y/3M serve as better predictors of recession than the 10Y/2Y curve. The yield curve has remained inverted for over a month now. This qualifies as a "persistent inversion" that creates a recession signal. But the recession does not always follow immediately. According to Jim Bianco of Bianco Research LLC, "The average lead time" until the recession arises "is 311 days, or about 10 months." What does this offer for traders then? On days when equity markets are rallying like there is no tomorrow, it tells us that markets are not out of the woods despite the buying frenzy. It means that a recession is more probable than not in the next year. But it doesn't tell us much about where prices are headed in the near term (technical analysis of price itself works better for this purpose). Just because a recession will likely begin in the coming weeks or months does not necessitate that equity markets plummet in a straight line to the ideal target. Many, including this author, wishes it could be as straightforward and predictable. So traders should also keep in mind that inverted curves are not a trading signal. They are part of the broader economic and rate-policy context within which equity markets operate. It helps me to know that markets are not likely to resume a long-term uptrend until the recession has ended. The bond market tends to sniff out the problems in the economy long before other markets. And equity markets can ride on hope and desperation for much longer than anyone expects—just as this unexpected bear rally carried SPX price from the October 13, 2022 low all the way back above the 200-day MA today and higher to close at 4080.11. Below is a chart of the 10Y/2Y yield curve, which is also inverted. Supplementary Chart A: To compare the current 10Y/2Y inversion with some historic inversions, consider reading this prior post from July 2022 on the 2s / 10s yield curve inversion, and be sure to hit the refresh button to see the most recent months of data. The Wall Street Journal Confirmed in recent days, by the way, that the 2s / 10s curve Supplementary Chart B: Finally, on a monthly chart, one can easily see that the 2s / 10s curve inversion is the deepest one on record—at least as far back as the chart allows. Hat tip to @SPY_Master for pointing this record-breaking inversion recently. Supplementary Chart C:
TVC:US10Y
by SquishTrade
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