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10Y1! trade ideas

You Can Have the Cake and Eat it TooCBOT: Treasury Yield Spread 10Y-2YY ( CBOT_MINI:10Y1! CBOT_MINI:2YY1! ), Micro Dow ( CBOT_MINI:MYM1! ), Micro S&P ( CME_MINI:MES1! ) On Wednesday, the Federal Reserve raises its benchmark Fed Funds rate by 25 basis points to a target range of 4.5%-4.75%. The move marked the eighth consecutive hikes that have began in March 2022. The overnight risk-free rate is now at its highest level since October 2007. Fed Chairman Jerome Powell sends mixed signals in his post-FOMC meeting news conference but appears more dovish comparing to previous speeches. The Committee thinks that “on-going increases in the target range will be appropriate”. These words send stocks down minutes after the speech begins at 2:30PM. However, during the Q&A session, when the Fed Chair confirms, for the first time, that “the disinflationary process has started,” the stock market rebounds strongly and finishes in the positive territory for the day. Other mixed messages: • Inflation data shows a welcome reduction in the monthly pace of increases; • It would be “very premature to declare victory or to think we really got this”; • It’s “possible” that the funds rate could stay lower than 5%; • Unlikely the Fed would cut rates this year unless inflation comes down more rapidly. Actions speak louder than words. In two rate-setting meetings, the Fed has slowed the pace from 75 bps to 25 bps. The path is not likely to reverse, and future rate hikes will come down to just two options, either 0 or 25 bps. In my opinion, the terminal rate will end at 5% or 5.25% after the March and May meeting. In recent months, the “Risk” button has been pressed on for risky assets: • The Dow is up 19% since October, and the S&P and the Nasdaq are up 17% and 18% for the same period, respectively; • Gold futures rallies 21% since November, while Bitcoin jumps 58%; • Tesla and Ark Innovation ETF gain 47% and 33% year-to-date, respectively. Historically, it’s rare for the stock market to dip two years or more in a row. For the S&P 500, it only happened four times in the last 100 years. The odds favor stock investors in the Year of Rabbits after a brutal double-digit selloff in 2022. Fed rate hikes and high inflation are like a brake that decelerated the running economy car. Now that the driver’s foot is off the brake, will the economy improve immediately? Not so fast. We will endure higher costs for months to come. Take the example of food items, once the price goes up, it usually stays up for the year. Sometimes, suppliers resolve to reducing the size of package for the illusion of keeping the same price, a tactic known as “Shrinkflation”. Wages, rent, phone bill, cable TV, utility, homeowner association fees and sales tax also seldom go down. All these point to a sticky inflation. Without massive government stimulus to press the gas pedal, subdued growth is on the horizon. However, the stock market is forward looking. Investors already see an "invisible foot" on the accelerator and begin buying in the dip. On balance, I’m bullish about risky assets, but would consider protecting my investments carefully. The inversed yield curve is a proven and tested signal of a potential recession. The 10Y-2Y Treasury yield spread is at -64 bps after the Fed rate decision. The yield spread turned negative last July and stayed below zero in the last seven months. Major crises could break out unexpectedly, crashing our party. The year-long Russia-Ukraine conflict could intensify, tensions in the Taiwan Strait could escalate, and the US government might not be able to avoid a national debt default. A Hedged Position on Stock Index Futures We could consider using the CME Micro E-mini S&P futures to establish a bullish position on the U.S. stock market. The June contract MESM3 is currently quoted at 4177, which is 58 points above the cash index. To protect my position from any adverse market movement, an out-of-the-money put option could be placed at the 3950-strike. If you are more pessimistic, a lower strike of 3840 may be considered. The benefit of futures over cash index ETFs lies with the leverage. With a smaller margin deposit upfront, investment return could be amplified if the market moves in your favor. The downside is that the loss will also ramp up quickly if the market moves against you. Put options protect us from any downfall below the strike price. Unlike futures, the maximum loss from a long options position is the premium you have paid upfront. A combination of long futures and long put options is, in theory, limited downside with unlimited upside. The risk and return tradeoff are asymmetry in this case. As a result, you can have the cake and eat it too! Happy trading. Disclaimers *Trade ideas cited above are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management under the market scenarios being discussed. They shall not be construed as investment recommendations or advice. Nor are they used to promote any specific products, or services. CME Real-time Market Data help identify trade set-ups and express my market views. If you have futures in your trading portfolio, check out on CME Group data plans in TradingView that suit your trading needs www.tradingview.com
Editors' picks
CBOT_MINI:10Y1!Long
by JimHuangChicago
9
Head and Shoulders Trading Short 10-Y YieldShort Selling 10-Year Yield. All information is on the Chart. Head and Shoulders is a measured move. Entry: 2.8 Stop: 3.2 (Above Right Shoulder) Take Profit: 2. Successful Investing is the ability to manage risk and foresee possible opportunities in the near or further future, prepare ourselves and take the risk when the opportunity presents itself. Invest safe and Happy trading. As always, appreciate the like, comments and share.
CBOT_MINI:10Y1!Short
by ppatrading101
2
The Real Cost of Fed Rate HikesCBOT_MINI:10Y1! CBOT_MINI:2YY1! The Federal Open Market Committee (FOMC) is scheduled to meet on July 26-27. Market widely expects a 75-basis-points (bps) Fed Funds rate increase, from current target of 1.50%-1.75% to 2.25%-2.50%. The call for a 100-point hike, while still feasible, is weakened after U.S. gasoline price dropped 70 cents per gallon in the past month. New data hints that the runaway inflation may be contained. Federal funds Rate is the interest rate that banks charge each other to borrow or lend excess reserves overnight. It is the most important global interest rate benchmark, as it directly or indirectly influences the borrowing cost for governments, corporations, and households. By the end of July, Fed Funds would have gone up by 2.25% (assuming 75 bps hike in July) from zero before March. The Fed is not afraid of raising rate even higher until inflation moves back to its 2% policy target. How much will a higher interest rate cost for government, business, or household? I will illustrate the impact of 100bps rate increase in this analysis. All data comes from either the Fed or USdebtclock.org, unless otherwise noted. Total Debt : By the end of Q1 2022, the total debt outstanding in the U.S. by both public and private sectors is $90.1 trillion. Mind-boggling. What does the number mean? • U.S. GDP was $23.0 trillion in 2021. Debt-to-GDP ratio is 3.92. It would take all Americans four years to pay off their debt, without spending or paying interest. • US population is 332,403,650 as of January 2022 per US Census Bureau. Debt per capita is $270,949. Each time a baby is born, he or she already owes more than a quarter million dollar. US National Debt : $30.6 trillion based on USdebtclock.org real-time calculation. This is just the debt owed by Federal government and various federal agencies. • National Debt to GDP ratio: 133%. • Federal tax revenue is estimated at $4.4 trillion in 2022. If our government just levies taxes and does nothing else, it will take seven years to pay off the debt. • Federal budget is $6.0 trillion in 2022, with budget deficit running at $1.6 trillion. Interest on debt is $440 billion, the fourth largest budget item. If interest rate goes up 100 bps across the yield curve, federal government will have to come up with $306 billion extra to service the debt. • Federal budget in 2022: $6.0 trillion o budget deficit $1.6 trillion o Interest on debt $440 billion (4th largest budget item) o Remark: $306 billion extra to service the debt, if interest rate goes up by 100bps • When all the rate hikes are over, annual debt interest payment could be over $1.0 trillion. It would become the 3rd largest budget item, behind Medicare ($1.4 trillion), Social Security ($1.0 trillion) and ahead of Defense ($751 billion)! State and Local Government debt : $3.3 trillion, of which $2.1 trillion from state governments and $1.2 trillion from local governments. • If interest rate goes up by 100 bps, state and local governments will have to come up with $33 billion extra to service their debt. • We may expect tax hikes from state and local governments, while public services may be cut back at the same time. US Corporate Debt : $11 trillion, which includes all debt issued by non-financial corporations domiciled in the U.S. • If interest rate goes up by 100 bps, American businesses will have to come up with $110 billion extra to service their debt. • We may expect higher prices for goods and services, as businesses pass on the interest cost to consumers. • Companies with high debt ratio may increase the chance of delinquency. US Household Debt : $23.5 trillion. This includes mortgage, auto loan, credit card loan and student loan, etc. • Personal debt per citizen is $70,304. If interest rate goes up by 100 bps, each person will have to come up with $703 extra a year to service their debt. • American families are fighting with a higher cost-of-living on multiple fronts. If the U.S. falls into a recession, their financial situation will worsen significantly. • Mortgage delinquency is expected to rise significantly. The remainder, approximately $21 trillion, is outstanding balance of credit instruments issued by banks and other financial institutions. Believe it or not, we have only just scrubbed the surface of our mounting debt problem. Most government liabilities are unfunded or underfunded. Each year, the Federal Government borrows new money to pay off the maturing debt. Medicare, Medicaid, and Social Security are pay-as-you-go programs. Government taxes current workers to pay for the benefits of retirees, without any money saving up for current workers. No one has a crystal ball if the benefits are still there when they reach retirement. With such a depressing future ahead of us, are there any trading opportunities? The answer is yes. I am counting on the inverted yield curve to return to historical normal. Yield curve plots the interest rates on government bonds with different maturity dates, notably three-month Treasury Bills, two-year and 10-year Treasury Notes, 15-year and 30-year Treasury Bonds. Bond investors expect to be paid more for locking up their money for a long stretch, so interest rates on long-term debt are higher than those on short-term. Plotted out on a chart, the various yields for bonds create an upward sloping line. Sometimes short-term rates rise above long-term ones. That negative relationship is called yield curve inversion. An inversion has preceded every U.S. recession for the past half century, so it’s seen as a leading indicator of economic downturn. On July 21st, the yield on two-year Treasury notes stood at 3.00 percent, above the 2.91 percent yield on 10-year notes. By comparison, two-year yields were one percentage point lower than the 10-year yields a year ago. Why are we seeing yield curve inversion now? Short-term yield directly responded to Fed rate hikes. It has gone up 225 bps in five months. Longer term yields are determined by credit market supply and demand. The prospect of an upcoming recession held off lending by businesses and households alike, keeping the yields relatively stable. In my opinion, yield curve inversion could not sustain for long. Borrowers would flock to lower rate debt, pushing up demand for longer term credit. Market force would revert the yield curve to a normal one with interest rates on long-term debts higher than those on short-term ones. Are there any instruments we could leverage to trade the reversal of yield curve inversion? Long the Spread of CBOT Micro 10-Year Yield (10Y) and 2-Year Yield (2YY) . Traditional Treasury Futures are quoted in Treasury Notes price, which can be viewed as the present value of future payments that bondholder will receive – interest payment every six months and the return of principal at par value at maturity. Micro Yield Futures are more intuitive. They are quoted in yield directly. On July 22nd, August 10Y Yield Futures (10YQ2) was settled at 2.819. August 2Y Yield Futures (2YYQ2) was settled at 3.06. The 10Y-2Y spread is -0.241. The 10Y-2Y spread has been positive in recent years. It turned negative in the beginning of July as we experienced the inverted yield curve. I expect the spread to return to historic normal - a positive number, in the coming months. To trade Micro Yield futures, margins are $240 for 10Y and $330 for 2YY. A long spread can be constructed by a Long 10Y and a Short 2YY positions. The great thing about a spread trade lies with the fact that you don’t have to be right in predicting the direction of interest rates. Spread will be widened if 10Y rises faster than 2YY. Even in a falling rate environment, if 10Y fell less than 2YY, the spread will be enlarged too. Happy Trading. Disclaimers *Trade ideas cited above are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management under the market scenarios being discussed. They shall not be construed as investment recommendations or advice. Nor are they used to promote any specific products, or services.
CBOT_MINI:10Y1!Long
by JimHuangChicago
1