US CPI is King, at least for the interest rate derivatives

I’m a big follower of the economic data. I follow closely the inflation figures because the interest rate markets usually move. It’s difficult to say what you should trade in this situation but it´s easy to predict the direction of the movement. Let’s see what happened and how the markets reacted.

US CPI surprise

I expected a figure in line with the expectations. Maybe, my expectation was driven by the lack of surprises in the European inflation, but I was wrong this time. The US CPI (YoY) was released showing a better than expected figure, 1.8% vs 1.7% expected. At the same time, the US CPI (MoM) showed 0.3% vs  0.2% expected. The party started and the futures markets started to move.

Market reaction

The sell-off in eurodollar futures was expected after the economic indicator release. Let’s start with the 10Y T-Note Futures.

10Y T-Note Futures March 18

    Source: TradingView, 10Y T-Note March18 future, 30 min

Good downside move, you can see the importance of this movement in the traded volume in the 30 minutes after the release. It’s not valid to sell at any point, as you can see this future went up after 14:00 London time.

Eurodollar December 18 future

    Source: TradingView, Eurodollar Dec18 future, daily

This is a great example of how the American economy has improved from 2016.As you can see it´s in a downtrend since September 2017.

    Source: TradingView, Eurodollar Dec18 future, 30 min

You can see the importance of the data and the scale of the movement in the 30 min chart. It´s funny to think that 7 ticks move is big but you should consider that the size of the trades is usually higher than other futures with more volatility. If there is not a release or news is strange to see big movements in this kind of products.

Different examples, across the interest rate curve 

     Comparison Eurodollar futures Dec19, Dec20, Dec21, Dec22, own elaboration

All the maturities behave exactly as the December 2018 contract shown before. The December 2021 is different, someone sold at market just in the moment of the release or a little bit before, this is why there is a big gap. The most important thing is that the dec21 move was smaller than the dec20 and dec22. I can see that in the volumes increased in the bounce back for Dec20 and Dec21. It means that the traders don’t want to be short in this maturities. It’s difficult to say if there will be a possible slowdown in the US economy in one year time but I  don’t dismiss this scenario.

Eurodollar Spreads

     Source: TradingView, Eurodollar spread Dec18-Dec19, daily

We can see that this spread is trying to go up from the min of 0.1400, this means that the outlook for the next year is positive. The main problem, and it will be highlighted in the next chart is that the long-term chart shows how the spread is tightening. 

     Source: TradingView, Eurodollar spread Dec20-dec21, daily

I´ve selected this spread because shows a clear downtrend. After checking, the Dec19-Dec20 spread shows the same pattern and we can think about the slowdown scenario mentioned before.

Sum up and opinion

I hope you like it. Following the economic indicators and how they affect the markets is one of my hobbies. I’m looking forward to bring this interesting subject and explain the concepts clearly. As you have seen, the better than expected US CPI generated a sell-off in the US bond futures and in the interest rate futures across the whole curve. This doesn’t mean that the rally in equities will last forever and there are signs that could be a slowdown in the US economy in the coming year or year and a half. In terms of the US equity market, I think that it will keep going up in 2018. I use the bank earnings as a leading indicator of the economy.

Have a good trading!!

Disclaimer

I wrote this article myself, and it expresses my own opinions that shouldn't be used as a trading advice. Trading carries considerable risk due to the high leverage involved

Eurodollar futures, examples and strategies to trade the interest rate curve

Introduction 

As you know, the Eurodollar futures represent the 3 months interest rate futures. I like the interest rate derivatives because they don’t usually have big movements like indexes, currencies or commodities. Another advantage is that there are a lot of contracts listed on the exchange and you can apply different strategies. The liquidity is very high, unfortunately, it’s not a fast market and getting filled is not easy due to the exchange algo.

We will talk about trading but understanding macroeconomics helps a lot in this kind of products. Let me show you why:

Current Macro view

The U.S. is showing its strength every time they release its macroeconomic indicators. Last week we showed a better than expected GDP growth (3.0%). October has been really good: strong durable good orders (2.2%), better than expected ISM manufacturing PMI, strong services PMI, an increase in Existing Home Sales, 4.2% as an unemployment rate. On the other hand, the Non-Farm Payrolls were worse than the market forecasted due to the effect of the hurricanes. The consumer price index wasn’t as good as the Federal Reserve would like it. But in general terms, the macro data was very good.

Considering all of these facts and a hawkish FED that expects three rate hikes in 2018, the Eurodollar futures should be falling at the moment.

Quick look at the Outrights

 Eurodollar December 2017

     Source: TradingView, Eurodollar Dec17, daily

This is the December 17 contract. It was lower at the beginning of the year because everyone expected a hawkish FED. The USD was really strong at this time. The FED delivered the first rate hike in March and obviously, the interest rate futures fell. After that, this contract rose to set up the maximums of the year in June. This movement was driven by the doubts about how a quick normalization and interest rate hikes could affect the economy. The main concern was the high level of personal debt and how the people could resist and pay in an environment where the interest rates were going up but the salaries were stagnant.  The Fed raised the interest rate in June for the second time of the year, and this contract fell until July. It seemed that everything was going well but the shadow of some geopolitical problems appeared. The front contracts rose. The Fed September meeting was a turning point and the confidence came back to the market. Janet Yellen announced that the Fed will start cutting its balance sheet in October, and she said that the normalization process would be gradual and predictable. At this moment, the sell side was the correct one.

 Eurodollar June 2018

     Source: TradingView, Eurodollar Jun18, daily

The June contract movement has been similar than the December 2017. The main difference is that the Jun18 is trading at the same levels of the beginning of the year, which in my opinion indicates that the market expects that the economy will continue growing in 2018.

 Calendar Spreads

If you think that trading outrights involves a lot of risks maybe you should consider calendar spreads and bet in the yield curve. Basically, you are betting that the difference between two contracts will wide or narrow. You can use technical analysis, macro analysis, quantitative analysis.

Eurodollar December 2017 - March 2018

    Source: TradingView, Eurodollar spread Dec17-Mar18, daily

Looking at the chart, you can see a clear trend that started in September. Does it sound familiar to you? The reason why this spread is going up is that the March 2018 contract has fallen more than the December contract. The economy is performing well, the market expects a rate hike in the beginning of 2018 and 2 more alongside the same year. At the moment, it’s trading at 0.1450, which I consider an important resistance.

Eurodollar March 2018 -  December 2018

      Source: TradingView, Eurodollar spread Mar18-Dec18, daily

This is a 9-month spread. You can see how well the spreads trend. It follows the same pattern as the other outright or strategies mentioned above. It was trending very well in September but it’s moving sideways and showing some weakness at the current levels.

Eurodollar September 2018 – June 2019

     Source: TradingView, Eurodollar Spread Sep18-Jun19, daily

This spread is different. The traders are pricing several interest rate hikes the yield curve is flattening. It has just crossed the 200 EMA and I think this movement will continue.

Eurodollar March  2019 – December 2019

     Source: TradingView, Eurodollar spread Mar19-Dec19, daily

This spread has been falling almost the whole year. The 200 EMA is very significant, every time that the spread closed above it the movement was reversed in a few days. As well as the previous one, it shows weakness.

Butterflies

If you agree that the spreads in 2018 are trending up while the spreads in 2019 are trending down and you would like to trade both, the best thing you can do it´s making a butterfly. This strategy consists of buying one spread and selling another one in which the middle leg is the second leg of the first spread. 

                       Butterfly structure, Step 1 and 2 are the spreads that create the butterfly, own elaboration

You can sell a butterfly if you do with 2 different spreads, you should sell the first one and buy the second one.

Let’s see these butterflies:

     Source: TradingView, Eurodollar Butterfly Mar18-Dec18-Jun19, daily

This is a very volatile butterfly but it’s a good example of this strategy. It supports the theory of buying the 2018 spread (Mar18-Dec18) and selling the 2019 spread (Dec18-Jun19)

     Source: TradingView, Eurodollar Butterfly Jun18-Dec18-Jun19, daily

This is less volatile than the first one. The best aspect is that it ranges all the time.It can rise to the levels drawn on the chart, but there is only my opinion.

Conclusion

I hope that you like. This is only a brief article but I hope that it will help you to understand how this kind of product behaves and the different strategies you can apply. Knowing about macroeconomics helps. I will be promoting this articles on the following twitter account: @fxfincomtrading

Thanks.

Have a good trading!

Disclaimer

I wrote this article myself, and it expresses my own opinions that shouldn't be used as a trading advice. Trading carries considerable risk due to the high leverage involved

#trading #eurodollar #macroeconomics #calendarspreads #butterflies #InterestRates #US #Fed

Why is good to try alternative trading strategies such as spreads?

When we think about trading, the first image we have is Wall Street, Canary Wharf, Frankfurt,  Chicago, Tokyo, Toronto, Singapur, Hong Kong, big investment banks, hedge funds, asset managements.

    Own elaboration

One of the biggest mistakes is thinking about getting rich quickly trading the financial markets. It doesn’t matter how many books you read or how qualified you are. Obviously, it helps but it's not enough. Also, you should consider that you can’t compete with the institutional investors and Banks as they can afford advanced technologies and they employ a lot of people.

The most important thing is risk management. Being focused and learning by doing is very important as well. Maybe you have a full time job and you would like to try to get an extra income from trading. If this is the case, you need to adapt your trading style to your situation. Maybe, instead of doing day trading, you need to look for a medium or long-term strategy.  If you are an individual trader or investor (not professional) I’d recommend the following steps:

1. Choose the market you want to trade with.
2. Making a trading plan and assessing the risk you are willing to take per trade (I wouldn´t risk more than 2% of the portfolio)
3. Adapt the strategies that suit with your current situation, and backtest them if possible (the best way is open a paper trading account) before using real money.
4.  Start trading and adjust the strategies if needed.

Trading is a long tough journey and carries a high risk even more if you use leveraged strategies. These 4 steps are a sum up about the whole process, I think I can make 20 steps or even more but it’s not the purpose of this post.

Spreads

    Source: TradingView, Eurodollar spread GEH18-GEZ18

This is a spread between two contracts of eurodollar interest rate futures. In this example, I’m using the Jun 18 and Dec 18 contract. As you can see it moves really well with less volatility than trading the outright. Let me make it clear with the following capture:

    Source: TradingView, Eurodollar spread GEH18-GEZ18 vs GEZ18

I´ve represented the Eurodollar Dec 18 futures in blue and purple while the spread between Jun18 and Dec18 is green and red. You can’t see the differences in the chart due to the scale but while the outright made a move of 40 ticks the spread move only 14.

The logic between the spread is different from the outright, you are trading the differences between 2 contracts.Basically, you are betting that the difference between both contracts will increase or decrease. 

The advantages of this strategy are:

1.  Less volatility
2. The margin required is less than the one if you trade an outright
3. You can do the spread between 2 different kind of futures (intra spreads, inter spreads)
4. You can take advantage of seassonality in commodities (I will write an article in the future)
5.  There are Exchange traded spreads, that you don’t need a specific funcionality in your trading platform

The disadvantages:

1. You need to know that you are trading the difference between two contracts so the logic is different
2. Higher execution cost
3. You need an autospreader or an specific functionality in your trading platform that is expensive

I hope you like it. I will write about different strategies in the future. Let me know if you are interested in an specific one. 

Disclaimer

I wrote this article myself, and it expresses my own opinions that shouldn't be used as a trading advice. Trading carries considerable risk due to the high leverages involved