I think you underestimate the pressure from outside the Fed (and beginning from within the Fed) to bring the FF rate off of zero. It has little to do w/whether the economy is in a 'self-sustaining' recovery (the BOJ used to use that term all the time). The fact is that the economy, while weak, is no longer in free fall. The banking system, still weak and hiding losses, is not in danger of imploding. These reasons alone can be used to justify a removal of what they will call an 'emergency rate'. Maybe a mistake, but it won't stop the value of those GE options from going to zero, or those Aug FF futures from dropping 50-100 basis points. Bill Gross, who knows a thing or two and has some contacts, mentioned it in his Barrons interview. Thom Hoenig won't shut up about it. The Beard hinted at it in his testimony yesterday. It keeps me up at night as it should anybody else who is long these products. The BOJ raised rates a decade ago despite much of a recovery. They subsequently lowered them again - this wouldn't have stopped anybody long Euroyen calls from being wiped out. In other news, economies outside of the US and Europe are motoring along. China reported some big economic news last night. Australia had a big jump in employment and a large drop in the jobless rate. Aussie 90 day bill futures plummeted. I now have an account set up which will allow me to trade these futures and options and will be spending a couple of hours a day focused on these markets in preparation for the trade (or not to trade).
Bernanke said they will hike the discount rate and immediatly mentioned 'this does not mean a different outlook for monetary policy', they said the same thing during the start of the reverse repos tests. Think about why they do this. Its due the fact that markets have big imagination and hints could set off cascades of fears and tightening to be priced in the markets. If the Fed were to put 1 or 2 hikes to feed some 'pressure' from outside forces the market would then start fearing some grand tightening cycle and that the fed will dump GSE MBS and kill housing. This could tip the economy to a double dip, you think the FOMC cares more about the money market funds lobby than the economy?
This article is clearly sourced from the Fed. http://www.bloomberg.com/apps/news?pid=20601087&sid=aSn2_iDKbl1g&pos=4 The Federal Reserve is in talks with money-market mutual funds on agreements to help drain as much as $1 trillion from the financial system as policy makers prepare for the first interest-rate increase since June 2006, according to a person familiar with the discussions. What part of "first interest rate increase" am I not understanding. Once again, we're stuck arguing right and wrong vs. what will or won't happen. Just because something may be the wrong thing to do does not mean it won't happen. I assure you that Eurodollar futures could care less about right vs. wrong.
The reason I picked 99.00 dec 2010 was due they being a bit robust in a tightening scenario. If they hike once to 50bps, assuming the libor-ois stays stable(probably a bad assumption given that the OIS will put some risk premium of more hikes), 3m libor would go from 25bps to 50bps. Giving a intrinsic value of 50bps to those GSE calls, 14bps of upside from current levels. Put tougher assumptions and there might not be any upside, but at the very least you get most of your money back and you can claim you got unlucky as this scenario looks highly unlikely
This person familiar with the discussion should lay off the crack, the market didnt even paid attention to this(front end up right now) We had the president of the NYFed Dudley saying lots at the fomc think 'extended period' means at least 6 months, meanwhile the Fed chairman nor any FOMC voter(to my knowledge) EVER even hinted 'exceptionally low' could be 50 or 75 bps, they know the market thinks it means 25bps and they never tried to align the market expectation to something other than that, if they were about to hike they would surely warn the world they have been misreading their statements for more than one year The fomc minutes also never included any discussion of making a small hike while keeping the extended language. Maybe the person familiar with the discussion is David Greenlaw trying to keep his job
All true, which is why I am going to try buying some cheap calls/call spreads. I'd be happy to write off the premium.
I don't think they're about to hike, but there is a lot of time between now and a year from now. To me, it looks like they're preparing the market to get ready for prepping the markets for a tightening. In other words, a bit of technical chatter now, then a bit more forceful language this spring pointing to a hike in the summer or fall. If equities continue to do ok and employment hangs in there, I believe this will be the path. Never underestimate the persistence of the upward path of equities or the ability of the BLS to spin a poor job situation into a falling unemployment rate (check out Dave Goldman's excellent post on this http://blog.atimes.net/?p=1348) Obviously, if the DJIA is below 10K and the jobless rate is above 10% (the BO administration's famous 10 and 10), there is little chance the Fed moves, especially w/a big election looming in Nov. I don't think the front end is moving down today because it has already moved quite a bit since last Friday afternoon - the Mar 11 GE fell 20 basis points (about the size of one hike) in the last 3 1/2 trading sessions. edit: Front end rates are higher again this morning according to my screen
Interesting research by MS http://www.businessinsider.com/morgan-stanley-m-magnitude-of-debtflation-ahead-2010-2 Either inflation will rise dramatically or the US will face a debt crisis at some point. I suppose real GDP could start some major boom but that doenst look likely, plus high government debt burdens tend to decrease real GDP growth as Rogoff shows
I'm typically not an option trader and am growing very frustrated with the pricing of these things. I would love to use these mini-panics to unload some of my GE calls, but the pricing of these things never seems to reflect reality. As an example, the Mar 99 GE calls are bid at .27 this morning. They were bid at .30 all the way back at Thanksgiving when the Mar GE contract was trading at an even lower level than it is today. Toss in the fact that 10 weeks have gone by since then. All other things equal, as time passes by, these things should move up in price. I see no reason why these should be trading at anywhere less than .30, and probably ought to be in the mid-30s. I realize this is a thinly traded market. Is it just a case of the market makers who sold me these things leaning on the price? Libor/OIS spread hasn't move much, so that can't be it.