Investors who were betting on a shift in Fed policy last week suddenly reversed their expectations ahead of the annual meeting of central banks in Jackson Hole.
At present , hedge funds will maintain a “hawkish” attitude towards the Fed, and their bets to continue to raise interest rates sharply have reached an unprecedented high. Meanwhile, traders also built large put options on the 10-year Treasury note.
This is mainly reflected in the derivatives market. The Secured Overnight Funding Rate (SOFR) futures, the successor to the London Interbank Offered Rate (Libor), have been aggressively shorted by hedge funds if Fed Chair Jerome Powell rules out a dovish policy turn at this week’s Jackson Hole global central bank annual meeting sex, the bet will be profitable. The latest data from the U.S. Commodity Futures Trading Commission (CFTC) shows that hedge funds have established a record 695,493 net short positions in SOFR futures, worth $17 million per basis point. At the same time, hedge funds also created more than 2.6 million net-short contracts in the Eurodollar futures market, also near the highest level this year. While the broader futures market continues to expect a rate cut by the Federal Reserve by the end of next year, the pace at which hedge funds have added to their short positions over the past month has more than tripled their total short positions.
Furthermore, the market is not only pricing in the front end of the yield curve, but also in pricing meeting outcomes. Over the past two sessions, bond traders have built a massive put structure on the 10-year Treasury note, betting that the yield on the 10-year Treasury note will rise to 3.70% in the next month. Buying continued on Monday, albeit shifting from October options to November options. Affected by this, on Monday, the yield on the 10-year U.S. Treasury bond rose above 3% for the first time in a month, and the yield on U.S. Treasury bonds of all maturities also rose across the board, with the 2-year yield hitting a high of 3.32%.
Ian Lyngen, head of U.S. interest rate strategy at BMO Capital Markets, said the 3-year Treasury note led the decline on Monday, indicating that shorting on U.S. Treasuries reflects market expectations that the Fed does not plan to adjust the direction of monetary policy in the short term. But at the same time, the Dec 2022/Dec 2023 SOFR futures spread reversed by about 30 basis points, indicating that the market still expects the Fed to cut rates by the end of next year.
According to Fedwatch, the interest rate monitoring tool of the CME Group, the probability of the Fed raising interest rates by 50 basis points and 75 basis points in September is 41.5% and 58.5% respectively, and the probability of betting on a 75 basis point rate hike is higher than that of Monday, but the overall probability is still high. close to equal. As a result, whether hedge funds’ bets will materialize at the earliest will depend on the message delivered at the annual meeting of global central banks in Jackson Hole.
The market was divided last week on whether the Fed minutes were hawkish or dovish, but this Friday Powell’s speech at the Jackson Hole annual meeting of global central banks will not be as ambiguous (like the minutes).
Citi’s chief technical strategist, Tom Fitzpatrick, also said the Fed’s job is far from done, and they need to raise rates by 75 basis points in September until inflation (or other factors) subside. Stocks and credit markets have improved in recent months, while 10-year U.S. Treasury yields have retreated from 10-year highs hit in June on expectations the Federal Reserve will slow the pace of rate hikes and the worst of inflation could be on the horizon. It has passed. But Monday’s rise in U.S. Treasury yields suggested that expectations for a more “dovish” tone from the Fed were waning and markets could be volatile again. He recommends shorting fixed income assets, long the U.S. dollar, unwinding or shorting stocks, shorting gold, and longing energy.