(Bloomberg) -- In the space of a week, traders have gone from piling into rate-cut bets in all corners of the futures, cash and options markets to showing doubts about the amount and pace of the Federal Reserve moves now priced in for next year.
The swaps market continues to anticipate that the central bank will cut its benchmark rate to around 4% by the end of next year from its current range of 5.25% to 5.5%. But some trades are already pushing back against that, wagering that the Fed is unlikely to ease monetary policy so quickly.
During Monday’s session, there was a significant amount of new positioning in options tied to the Secured Overnight Financing Rate that would benefit if the market is off about the number of rate cuts that will come in the first half of next year. That followed a report from Goldman Sachs strategists that suggested using SOFR options to bet against the “excessive” amount of easing priced into the futures market.
Read More: Goldman Favors Options to Counter ‘Excessive’ Rate-Cut Pricing
Recent flows in SOFR futures have also been consistent with profit-taking on long positions. One set of block trades stood-out Tuesday that appeared to be completing the unwinding of a 100,000 long position entered into last week.
Yet in the Treasury futures market, the options skew has shifted positive across all tenors with a notable move over the past week on the long-bond contract, where the cost of hedging against the risk of an outsize rally has risen to the most expensive since April. That indicates that traders — despite doubts about whether the expectations for the Fed have shifted too far — are putting higher odds on Treasuries rising than being hit by another selloff.
Here’s a rundown of positioning in various corners of the market:
Dovish Skew Shift
The skew on 2-year, 5-year, 10-year and long-bond futures has shifted to positive, meaning that traders are now paying a premium to hedge a rally in Treasuries over a selloff. It’s the first time all tenors favor call skew since June, while the skew in long-bond contract is most expensive — favoring a rally — since April.
Hawkish SOFR Flows Emerge
Monday’s session saw the emergence of significant demand for downside protection for the first time in weeks. The larger flows — for new risk — were in January and February options. The flow bucks a one-sided theme of upside demand seen over the recent sessions. Among largest weekly positioning swings has seen rises in open interest in 94.875 and 95.125 strikes, largely down to heavy wagers in Mar23 94.75/95.00/95.25 call flies and Mar24 94.875/95.00/95.125/95.25 call condors.
Hedge Funds Cover Shorts
Hedge funds have unwound short positions across the Treasury futures curve by the most rapid pace since February, according to CFTC data up to Nov. 28. Over the week, hedge funds unwound the equivalent of approximately 283,000 10-year note futures, with most of the short covering seen in the the long-end of the curve. The biggest unwind from hedge funds was seen in ultra-long bond futures, where the net long position was reduced by $7.4m per basis point in risk.
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