By Arthur Bass, Wedbush Managing Director
Our analysts have looked at strategies for both the Fed on hold and tightening in March. With a December move well priced, March is the next key Fed decision point. Whether the Fed tightens in March or not is dependent upon economic performance, although stability in financial markets will also be a factor. The meeting is also a week and a half before the final Brexit date, which may also become a factor, even if not directly stated.
However, even if we are certain if the Fed will go or not, there is enough uncertainty with FRA-OIS as well as IOER to make any projection a bit of a guess.
Front contract FRA-OIS is near 30bp, but the spot spread is near 40bp which is where the EDZ8 basis went out. FRA-OIS had ranged from 17 to 42bp so far this quarter, essentially a full Fed move.
Assuming IOER is only raised 20bp in December, scenarios for March are:
|Current Level||25bp in March||bp Change||On Hold in March||bp Change||FRA-OIS|
Note the projections could also be 5bp higher if the Fed raises IOER 20bp in March as well, or only raises it by 15bp in December.
There have been a number of strategies done in EDH9 and EDM9 for the Fed going on hold in March. Some of the larger ones have been:
Fed Tightens 25bp In March
Buyer 100K EDH9 97.125/97.00 put spreads @ 1.5-1.75bp. This trade should work if IOER is raised 20bp in December and 25bp in March, and FRA-OIS remains above 20bp. It will be OTM if FRA-OIS -IOER is raised less or FRA-OIS declines lower. It has also cheapened in the past week as there was a large buyer of EDM9 vs EDH9 97.125/97.00 put spread calendar, which was probably a roll.
Fed on Hold in March
Buyer EDH9 97.25/97.375cl 1×2 – several hundred thousand of this trade has been bought starting last month at 0-.5bp. 5K was unwound today @ 1.75bp. The EDH9 97.25/97.375/97.50 has richened to 3.5bp. As the EDH9 trades got more expensive, similar strategies have been put on in EDM9 for the Fed on hold through June.
EDM9 97.375/97.50/97.625 call tree was bought today @ 0.5-0.75bp (higher strike).
EDM9 97.25/97.375/97.50 call tree is 1/1.5bp, captures the likely range, but it is a long time until June and a lot can happen.
Because FRA-OIS has been so volatile – moved 25bp in the past three months, equivalent to getting Fed tighten or on-hold right, as well as the new uncertainty of IOER, picking 12.5bp wide spreads in Eurodollars has become a bit tricky.
These trades can make sense, but as shown above there is a lot more impacting the price than just what the Fed does.