Even as some extreme positions have been trimmed, bond traders continue betting on rising U.S. Treasury yields, as the key U.S. employment data due Friday could provide further support for Federal Reserve interest rate hikes.
Recently, due to rising oil prices and inflation persisting above target levels, bearish sentiment has dominated the U.S. bond market, driving benchmark yields sharply higher. Traders have been placing bets on the Fed raising rates this year. While there is some market anticipation regarding U.S.-Iran talks, traders remain cautiously defensive.
The yield on the 10-year U.S. Treasury note has retreated from a peak near 4.69% two weeks ago to below 4.5%, but it remains significantly above the lows seen earlier this year. Strategists at Bank of America wrote in their latest weekly report, "Market positioning remains skewed to the short side." They added that yields are still biased to move higher, even if momentum has weakened.
Against this backdrop, the U.S. nonfarm payrolls data is scheduled for release on Friday. The market expects steady job growth in May, with the unemployment rate holding at 4.3%. Data stronger than forecast could further bolster the confidence of Treasury bears; conversely, weaker-than-expected data could easily trigger short covering, fueling a rebound in bond prices.
Job openings data released on Tuesday showed the number of vacancies far exceeded economists' expectations, indicating robust momentum in the labor market. This is the latest evidence of the jobs market stabilizing since the start of the year.
Over the past week, traders in the U.S. Treasury options market have been engaged in hedging operations. Notable trades include a $16 million position targeting a 10-year Treasury yield of 4.4% by the end of this month, and another sizable position betting the yield will climb above 5%, which would be a new high since October 2023.
In the cash market, JPMorgan's Treasury client positioning survey showed little change, with investors shifting a small amount of long positions to neutral ones. The CME FedWatch Tool indicates the market is now pricing in roughly a 70% probability of a Fed rate hike this year.
Summary of Latest Positioning Indicators in Rates Markets
JPMorgan Treasury Client Positioning Survey
For the week ending June 1, investors reduced long positions by 2 percentage points, shifting to neutral holdings, which increased by the same amount. Short positions remained unchanged during the week, but net long positioning decreased by 2 percentage points.
SOFR (Secured Overnight Financing Rate) Options Positioning
In options expiring on June 26, September 26, and December 26, open interest at the 96.375 strike increased significantly, primarily driven by a rise in call option positions for the December 26 expiry. Flows over the past week included buying SFRZ6 96.3125/96.375/96.4375 call spreads. At the same strike, there was substantial unwinding of put positions for the September 26 expiry.
The 96.7375 strike was also active, with recent flows including purchases of SFRU6 96.4375/96.5625/96.6875 call spreads. Across the June, September, and December expiry options, the 96.50 strike holds the largest open interest.
Open interest at the 96.3125 strike is also substantial, having grown in recent weeks. Flows included buying SFRU6 96.3125/96.4375/96.5625 call spreads. Additionally, trading volume at the 96.375 strike increased over the past week, which included purchases of SFRZ6 96.3125/96.375/96.4375 call spreads.
US Treasury Options Skew
Over the past week, the premium paid for hedging long-dated U.S. Treasuries remained deeply skewed towards put options. As the 30-year yield continued to hover around 5%, the premium for protective puts widened further. Option skew for other tenors also favored puts, though to a lesser degree.
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