30yr UST Auction Preview

Today is the 2nd of the long-end UST auctions for the month of November (16bln 30yrs will be sold to the market at 1pm...largest single DV01 event of the monthly cycle).  This will be a new 30yr (new cusip, maturity date, coupon, etc..).  Buying bonds in these auctions and holding for 24 hours has been a winning trade for the last 14 new 30yr auctions (that goes back 3 1/2 years since the start of monthly bonds and QE).  Normally, the long end of the UST market has either been selling off or significantly cheapening vs stocks at this point in the monthly cycle.  Today is one of the rare instances where this is not the case (must adjust today's 10yr yield for a 4bp roll to see this is the case).

30yr auction previews have the benefit of analyzing the previous days 10yr auction, which is the 2nd largest DV01 event during the monthly cycle (16bln 30yrs are the equiv of 34bln 10yrs...yesterdays 10yr auction was 24bln).  So, lets first do a post-mortem of yesterdays 10yr auction.

Focusing on price action alone (lets ignore predictions about the election results on the market)...leading up to the 10yr auction yesterday, there was a global risk-off trade combined with a flight to safety bid for safe-haven assets, and US treasuries tend to be the primary safe-haven asset.  In the last 30 minutes leading up to the auction itself, somebody took 10yr notes up from 99-28 all the way up to 100-02+ (to be fair, liquidity dries up in that time period).  Before this last minute run-up, 10yr notes had been stable around 99-28/29 for most of the morning.  Why the last minute uptrade into an auction?  That was fear.  Fear from a trader who had planned on going into the auction short...deciding to cover that short before the auction.  Why would a trader do this you ask?  Well, if the past, there have been a handful of occasions where strong demand for UST paper has caused the auctions to come thru...which cased massive violent short covering post-auction.  While nobody could have predicted whether this would or would not have happened yesterday, the result is very telling for us now.  The actual auction result came at an equivalent price of 99-29, so this last minute run-up turns out to have been unnecessary (though to be fair, not expensive enough to break the bank either).  From the 1pm price of 100-02 (the result of that run-up) the auction tailed to come at 99-29.  However, if we ignore that last-minute run-up, we would say that the auction came on-the-screws.  I believe this is the appropriate way to view yesterdays 10yr auction result...an on-the-screws auction where the UST market had been rallying strong all day.  While this means there was not an insatiable demand for UST paper (that would have been a thru result), there was strong-enough demand to buy the paper at the avg price where most of the bonds had been traded pre-auction.  Or, in other words, the dealers bought their paper at about the same price where they collectively set their shorts.

So, to recap, yesterday's 10yr auction was a risk-off UST rally into the auction, followed by an on-the-screws result.  This means there is very healthy demand for UST duration, but not of the blood curdling fear based variety that would have cased a short covering result (indeed, almost everybody who tried the short setup lost money or was flat yesterday).

As i write this, the 10/30 curve (my favorite indicator of 30yr demand) is trading at the equiv of 119.5 (there is a 4bp roll from the new 10yr and the old 10yr...so add 4 to the today's section of the graph).  This is the steeps of the last 2 weeks (expected), but nothing too extravagant as the weekly range has been 114 --> 119.5  (that is slightly tighter range than normal for this curve).   With this months extra 2bln 30yr Fed buyback, i suppose its hard to expect much more steepening than this.  Darn that QE.

Volumes in the UST market are normal for this time of day (they are low for a 30yr auction day), and stocks have flat-lined since yesterdays sell-off, so no new real nuggets of information there yet.

Comparing UST with risk assets, relative value indicates that we are inline, both on a 1 and 6 month time scale.  UST has not cheapened vs stocks in the past week if you look at the 1 month chart and subtract 4bps from the 10yr yield to take into account the 4bp 10yr roll.

On the 6 month time scale, UST vs ES and EUR are also inline.

Last but certainly not least, Fed QE (also known as POMO).  There is a 5 bln 10yr Fed purchase coming up at 11am.  While this is a fraction of today's auction, greed still demands an attempt to sell some 10yr paper as high as possible to the Fed before the 1pm 30yr auction.  Clearly, the 30yr auction dominates in terms of duration, so i expect a touch more 10/30 steepening in the next few hours, but not so much in terms of an outright rally into the buyback like we normally play for to frontrun the Fed.

So, what is the conclusion for today's 30yr auction preview?   I don't foresee a thru auction, as we are trading near the highs of the last month in both price and spread.  There is a moderate curve concession, indicating some curve based demand (the flattener is a favorite trade coming out of this auction) but 4 bps of curve is small...12-20 bps of curve concession are need to be significant.  The outright demand will have to be based on short covering and overall UST demand.  I believe that yesterday fulfilled a large slug of the overall demand for UST paper, and so i don't see the fear based bid overwhelming the market.  There appears to be a bit of exhaustion in this market today.  We have not seen nearly enough short based setup for this auction to cover the duration, so if 1pm comes at current prices (30yr trading 98-12 as i write this), i expect a tail.  Market participants tend to have short memories, and the failure to make money from a short setup into yesterdays 10yr auction will have 2 effects.  For one portion of the market population, there is too much fear to try the short setup again today after its failure yesterday (these tend to be the weak hands) and they may lean towards sitting this auction out.  For the other half of the population, this confluence of events should provide the setup to try for a tail.

For the moment, that's my call...i expect a tail from this auction (or a selloff leading into it), and i want to exit the day with a 10/30 flattener.

more later on the blog as we approach 1pm....and trades will be posted to twitter if time permits.

govttrader out...

10yr UST Auction Preview And Morning Comments

The overnight comments made by Draghi (combined with the expected US policy gridlock from Team "O") have spooked the risk markets, and this morning there is a significant flight to safety bid in US treasuries.

Clearly, most traders who held a short outright UST position overnight have stopped themselves out by now (UST market trading volumes are HUGE overnight and this morning).

Nov. 7th 2012   7:12 AM
(Bloomberg) -- Cash trading at 285% of 10-day moving average vs 217% TY, CRT strategists David Ader and Ian Lyngen write in note.

This in itself (short covering) argues for a shot at setting a short 10yr trade.  However, the risk situation today is highly volatile.  Any short UST position should also have a small short risk position to hedge against a dramatic drop in risk as stop levels have been breached (such as ES).

The question now is...do you set a short before the 10yr auction...or will the fight to safety bid dominate the auction and create a "Kobayashi Maru" scenario for the dealers?  The 24bln 10yr auction itself should be able to satisfy any short term need for UST duration, so a post auction (later this afternoon) rally would only be short covering from those who try to go into the auction with a short position and miss the auction.  If that occurs, then I like selling the corresponding pop in whichever UST security shows the most short covering (short covering is always a fade).  I'm sure that with the UST market pausing here over the last 2 hours  (10yr @ 99-28 as stocks just dropped another 15 ES points as i am writing), a handful of traders have taken a shot at setting a short.  The 40 point move in ES today is probably enough for the day (rare is the ES move greater than 40 points).

With the 11am 30yr buyback out of the way a moment ago, i like setting a small 30yr short here @ 98-18 with a pretty tight stop combined with a small short in ES @ 1394.

Trade update originally posted to twitter:

No likey this price action as we approach 1pm...exiting my short 30yr short ES position (98-14 and 1393).
— govttrader (@govttrader) November 7, 2012

Stepping back from the auction....

Returning to our Elliot Wave guesstimate for broad market direction that we discussed 3 weeks ago...the outlook for stocks doesn't look good.  In Elliot speak...stocks have been filling out an expanding wedge pattern following the completion of a 5 wave cycle.  The next impulse wave should be very large.  While its hard to say when that will happen, the bias is clearly to the downside for stocks (in both the US and globally) over the next few months (excluding some kind of divine intervention).

The only trade that made sense (screamed out really) to take home last night was the 10/30 steepener...as that bizarre 10/30 flattener that was put on yesterday afternoon dislocated 10/30 from reality (from 119 --> 117 )  (see my twitter comment on that one).

That was short lived as 10/30 quickly returned to 119 overnight and has stayed there (quick low-risk 4% return thank you very much...960% annualized...but nobody does that right??).  The 10/30 flattener trade makes sense coming out of the 30yr auction...but not before.  I still can't get my head around the trader who put on that flattener.   Regardless of who won the election, everybody knows the flattener is a trade you put on COMING OUT of the 30yr auction...NOT BEFORE.

I'll post again as we get closer to the 1pm auction....govttrader out...

Long Liquidation

See the big red bar starting at 132-30+ with 83k contracts...that was the long liquidation (plus the 2 surrounding bars = 170k contracts)

Warning - Beware the UST long liquidation

While still lower than expected...volumes in the US Treasury market have picked up.  The probability of a long liquidation from Friday's buyer has just skyrocketed.  We can see the whites of their eyes...so to speak...so be on the lookout.

2 Forces Battling In The Treasury Market - Friday's Large Buyer vs This Week's Auction Setup Sellers

With this week seeing 2 of the largest DV01 events of the month on Wed and Thurs (24bln 10yr and 16bln 30yr bond auctions), the large buyer from Friday will have a tough opponent on their hands. 

Summary of forces to be concerned about in the US Treasury market today:

• Friday's large buyer
• Auction related setup sellers
• The Fed (POMO)
• COT Report spec longs
• Risk RV (Stocks vs Bonds)

Typically, the majority of the duration setup (selling current bonds to make room for new issues) for the 10yr and 30yr auctions would be well on their way by now.  In a normal balanced market, this setup would cause the long end of the treasury market to selloff, creating a concession (drop in price) so that the new issues can be purchased at a discount.  This selloff / discount is normally required to absorb the duration of the supply.  This week however, we witnessed a large levered trader take a long position (on Friday post NFP) right ahead of the auctions.  The community of auction participants will still need to sell bonds ahead of the auction.  The question on everyone's mind is...will the large buyer from Friday be proved victorious (create a rally to sell into) or will the auction setup sellers force Friday's buyer to capitulate and liquidate his position into a falling market (this would be a violent downtrade).

Either way, Fridays buyer will be liquidating his position at some point, and the auction related sellers will be flat or long come Thursday's bond auction.  The only question is...does Friday's buyer liquidate at a high price (sell into a fear-based rally), or does he liquidate at a low price (sell alongside the auction concession).  At this point in the cycle, we normally look to risk assets to help give us a clue.

Normally, at this point in the cycle, the expectation is for UST to weaken substantially vs risk assets (S&P futures are usually a good barometer for risk appetite).  If that were happening right now (as we would normally expect it to), then the green line (10yr yield) on the above chart would be moving closer to the red line (S&P futures).  That hasn't happened yet.

With almost all global stock markets showing gains overnight...

I am not surprised that US treasuries have sold off a little. 

I am surprised that US treasuries have not sold off more, given that there are 2 large auctions looming in the next few days.  I blame this lack of concession on POMO and Friday's large UST buyer, who has thrown a wrench in the works of this auction supply process.  POMO will completely absorb this months long end supply.  There are some large auction related short positions that were established yesterday (avg price 133-04+ using ZN....99-14+ using 10yr notes).  At the moment, both of these positions (Fridays buyer and yesterdays sellers) are "in the money."  I suspect one side will press their position today in an attempt to shake out the other.  On a relative value / cyclical  basis, UST sellers have the upper hand.  On an "in the money" basis, Friday's buyer has the upper hand (starts off with more money in the trade).  

One other factor to consider..the CFTC commitment of trader's report.  This report released on Friday indicated the largest long duration position in the US treasury market since March 2008.  These spec longs are not permanent fixtures of the market.  These are traders...and traders like to trade.  This means that there is a large population of spec longs just waiting to sell their position.  They will either sell into a rally taking profits...or they will sell into a downtrade in a long liquidation.

In a market where "flow" is the dominating force, one of the above forces will push the others off a cliff in the not too distant future.  Stay tuned for the party....there should be a significant transfer of wealth coming soon.

This is frustrating for anybody who doesn't have a position yet, as the winner has not been announced.  I don't advise taking a position in the middle of this trading range.  I do advise going with the large trader from Friday.  Primary dealers are forced to bid for their pro-rata share of the auction, so they are forced to sell paper at some point to make room.  These primary dealers do not have room to take infinite P&L pain...sometimes they are forced to short cover too.  We spec traders are lucky in that we have no such obligation.  We can wait and see what the large trader does and follow in his footsteps.  If he sells ahead of the auctions, i'll sell too.  The winner of this battle will be known by a violent trade (either thru short covering from the auction setups, or a long liquidation from Friday's buyer), and this will be clearly visible to all.

For those interested in the worst / best trade for the dealers who traded yesterday:  the worst price action for the dealers would be a stock selloff / UST rally today that forces yesterday's sellers to short cover...and Friday's buyer simultaneously liquidates his position selling into the short covering rally.  If that plays out, then we should finally see a ripe opportunity to set our own short for the upcoming auctions.  Note how we would be selling alongside Friday's large buyer.  If we don't get that opportunity, well...money not made is better than money lost, i always say.

more later...govttrader out...

Update - new read - market distributing higher today indicating supply imbalance

For all those traders scratching their heads, wondering why the treasury market is rallying in front of the big 01 auctions, this blog post is for you.

All that excitement I had earlier this morning, talking about selling a POMO induced pop...and nothing.  The market has been coiling near the POMO related high print (99-17 on 10yr notes...133-06 on ZN @ POMO results).  I was waiting for 133-11 on ZN to sell the mkt, which is about 99-23 on 10yr notes.  I believe (because my model says so) that if the market were to trade up to those prices, we would see heavy selling, taking us back down and thru 132-27 on ZN.  Unfortunately, the market was stubborn today and has been sitting here in the 133-02+ --> 133-06+ range for the past few hours (that's only 4 ticks....a trading range on the order of 12 ticks is more normal).  Trading volumes today are very light (70% of normal for this time of day).

In my first instinct, I see 2 comments on the trading activity today.  First, volumes are light, and price volatility low.  Second, the market seems to be coiling around this new higher price zone today.

While the market has NOT been making intraday higher highs...it HAS been making intraday higher lows.  So, looking back at the price action from Friday post NFP, we find a pattern that we've identified in the past.  In the 30 minutes post NFP announcement, over 180k ZN contracts traded between 132-10 (the low print and consequently the bottom of the weekly bell curve) and 132-15, followed by vertical trading up to 132-27 (12-14 ticks of vertical price movement) followed by sideways-ish activity for several hours.  Then, at the London open this morning, the market distributed (moved on low volume) from 132-27 --> 133-04+.

Normally, our model says that when over 100k ZN contracts trade in a small price/time region at the outer edge of the bell curve, followed by vertical price action..followed by sideways activity (also referred to as a "P up")...we must beware an undersupply condition (a newly initiated short term trend). Today's price action seems to be indicative of this exact pattern.  So, we have a 1st P up, followed by sideways activity, followed by a supply distribution...followed by sideways activity.  The large buyer from avg price 132-14 has most likely not had an opportunity to exit his position (he needs to sell into a high volume rally because his position is so large).  This is why the 133-11 price target was the natural location to sell today.

However, at current price / time, most of the "original liquidity providers" have taken their losses and turned over their positions to fresh shorts (lots of small capitulation trades - hence the supply distribution followed by sideways activity making higher lows).  Since we "missed the boat" with regards to the original supply imbalance, the only thing to do now is wait and watch the market for signs that the large buyer is exiting his position and handing off his long position to fresh weak hands.

To be clear, the 133-11 level is no longer a line in the sand to sell (though it is still a potential liquidation zone for Friday's large buyer..and thus a level to watch closely).  I'm going to wait and see what the large trader does and follow his footprints (that means i must wait for the large trader to start selling his position BEFORE i can sell the mkt).  This makes setting up for the upcoming auctions particularly difficult for the concession trade.  So long as the new large buyer (who is levered) withholds his paper from the market, the market will have considerable difficulty moving to lower prices.

This is an unusually large degree of control for one leveraged market participant to have over the treasury market, and yet here it is.

more later...govttrader out...

Making sense of this volatility - MP has the clue

On Friday after NFP, the ZN market touched just barely 132-10 from 132-27.  The high mode for the past week is either 132-22 or 132-27 (depending on your bias).   If you were to use the higher mode (132-27), then the top of the weekly bell curve is now 133-12. 

The CFTC commitment of traders report lists ZN (10yr futures) net longs the highest since March 2008.  At the same time, net shorts in the ultra-long T-Bond (30yr futures) are the largest since July 2011.  So, the market is net long duration, and in a 7/30 steepener.  We can see this in the price action over the last week (the market has rallied and steepened).  The last time the market was this long in March 2008, there was a correction (selloff) that lasted over the following month down over 3 handles (this makes sense, as all those spec longs have to sell to somebody).  Given the upcoming 10yr and 30yr auctions this week, I expect these recent highs to be an opportunity to sell a pop, and use the auction concession setup to capture half of the bell curves volatility.  The POMO for this week includes one additional purchase (30yr bonds) which was carried over from October because of hurricane Sandy.  I'm hoping this induces a POMO related pop...so i can sell into it.

Remember, trading bell curves with market profile not only helps us determine our bullish or bearish bias...it also helps us determine where to buy and sell to minimize our risk.

govttrader out...

Trading with the weekly profile

Note to self - use the weekly mode for longer term trading.   I sort-of already knew this..but i'm writing this down in the public eye to reinforce the concept.

Ok readers, lets have some fun and look at the below picture of the last 6 days of profiles, and answer this question....what was the weekly mode (converging onto recent daily mode) going into this NFP number...and what was the high price for that time period which covers this new bell curve (remember the 7-day rule)?

If you then look at the low print after the NFP print and do some simple subtraction...i think all the Market Profile bell curve resistors will have a "son of a bitch" moment.

that is all...govttrader out...


10:38 AM update:   more recent chart...the weekly mode reigned in the market again!!!

What do to after the month-end pop?

So, yesterday (Oct 31, month-end) the UST market (ZN) rallied to a local high at exactly 3pm, 2 ticks above the top of the locally defined bell curve (133-00). 

Readers of this blog should know that we expect this (a UST rally into month-end) to ultimately present an opportunity to change our game plan from buying dips to selling pops.  We are now always looking for ways to get short the long-end ahead of the next 30yr bond auction, and we use the ZN contract to help us gauge directionality of the market.

We won't take a position into Friday's NFP, but we do trade the price action leading up to it, and we will trade the price action after.

So, did anybody out there make a sale at 3pm yesterday?  Give me a shout out...

Govttrader out...