Data from CME shows that open interest in 5-year and 10-year Treasury futures has climbed sharply, with asset managers adding more than 100,000 new 10-year short contracts in a single week. The market is on alert that if nonfarm payrolls or inflation data come in below expectations, the crowded short positioning could trigger a violent round of covering.
Over the past week, the skew in long-bond futures options has shifted dramatically, with put option premiums rising to their highest level since August, as traders actively seek protection against further yield increases. Short positions in US Treasury futures continue to pile up, and analysts believe that once economic data weaken or Federal Reserve officials signal a dovish stance, the market could face a sharp short squeeze.
It was noted that weighed down by a surge in corporate bond supply, US Treasuries extended their months-long slump on Tuesday, with the 30-year Treasury yield rising to its highest level since 2002. At the same time, elevated energy prices continue to fuel inflation pressure, further encouraging bearish sentiment in the market.
However, at present, short positions in US Treasury futures have become highly concentrated, and any surprising signal of economic cooling could trigger a rapid unwinding of short positions, leading to a sharp short-term drop in yields.
This week, bond traders will focus on two key data releases: the Federal Reserve's preferred inflation gauge due on Wednesday, and the monthly employment report at the end of the week. Economists surveyed expect nonfarm payrolls to rise by about 90,000 in September, a sharp slowdown from the unexpected 162,000 gain in August.
Short Positions Accumulate Rapidly, Reaching a New Phase High
According to CME data, over roughly the past two weeks, open interest in both 5-year and 10-year Treasury futures has risen substantially. Data from the US Commodity Futures Trading Commission (CFTC) shows that in the week ending September 22, asset managers added more than 100,000 new short positions in 10-year Treasury futures, one of the largest weekly increases since 2023.
In addition, the 5-year contract saw position increases in 11 of the past 12 trading days, while the 10-year contract expanded for 13 of the past 14 trading days. In terms of scale, since the start of last week, the combined new futures risk exposure in the two maturities has been about $32 million per basis point, equivalent to a notional size of $75 billion in current 5-year cash bonds.
Bank of America strategists including Meghan Swiber noted in a research report that futures positioning still leans toward further yield increases, and that short positions in the short and intermediate maturities are currently still profitable. The team also pointed out that asset managers continue to add Treasury shorts, especially concentrated in intermediate and long maturities, while trend signals from commodity trading advisors (CTAs) also show they are "firmly maintaining Treasury shorts."
It is worth noting that behind the current increase in positioning, aside from directional shorting, there may also be basis trades against cash Treasuries, or asset managers hedging their bond holdings, which adds somewhat to the complexity of the market structure.
Short-Covering Risk Rises, Options Market Already Shows Hedging Signs
As short-selling forces continue to accumulate, once economic data come in below expectations or Fed officials strike a dovish tone, the market could face a violent short squeeze, and yields could fall rapidly at least in the short term.
Developments in the options market already confirm this concern. According to the data, over the past week, option skew in long-bond futures contracts has changed sharply, with put option premiums rising to their highest level since August, indicating that traders are actively seeking protection against continued yield increases, pushing up the cost of puts relative to calls.
In addition, some bearish hedging positions are set to expire at the end of this week, meaning these positions also cover the event risk from Friday's nonfarm payrolls data. Meanwhile, JPMorgan's Treasury client survey shows that in the week ending September 28, investor positioning remained broadly unchanged, with long positions still at their highest level since last November, indicating that some bullish forces remain and providing a certain base for potential short covering.
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