Front-Running the Fed

Gifts! I'm trying to understand how this works. The Treasury sells at 11:00 am MST. Prices dip briefly, but only for less than 5 minutes. Then, after the Primary Dealers buy, they begin to rise again over the following four hours. Then, treasuries begin to sell off again at midnight! Ironically, at that point, the market sells off, with treasury prices lower for the day by 6 am MST the following morning. Thus, the short side of the trade can also be taken! This is being seen as "free money" in the markets. Buy, sell, rinse and repeat!

This article suggests that the next big Fed monetization (QE2) begins on Friday. It was my understanding that it began yesterday, shown on these charts. I have included the time scale at the bottom of each chart so that it can be seen.

The following charts show the progression of the trades on the 10-year treasuries. The charts for the 5-year treasuries were nearly identical! Also the 30-year! But the 10-year has at least twice, and up to five times the volume of the others!

Chart #1: 15 minute and 3 minute charts - note the time scale at the bottom

Chart #2: 50-tick chart - shows the selling at 11:00 am when the Treasury auction occurs, and the reversal at about 11:03 MST. Best to open large chart in a separate window.

Chart #3: 500-tick chart - This chart picks up where the 50-tick chart stops at about 11:08 MST. Note the steady rise until just after market close, even into the first few minutes when the market reopens at 4:30 pm MST, peaking out at 4:45 pm MST. This trade was worth $2000 per contract.

Chart #4: 150 tick chart - prices continue to fall for three hours before the Treasury auction, right up until the first few minutes of the auction

from Zero Hedge:

From Nic Lenoir of ICAP
A classic stop and squeeze...
Well at least the only trade left in town is working! In a classic old school alley-oop clinic that could make us forget Magic to Kareem, the Fed to dealers to Fed (remember the Fed runs the auctions) switcharoo was in full force today. Add to that the fact we have a mid-week bond holiday before the start of QE 2.0 on Friday, and really the set-up was perfect. A nice tail at the auction stopped out the day traders and the weak longs into the hands of the dealers who turned around and bought, even more so in the 5y to 10Y sector, so they can deliver to the Fed on Friday. We happily tried to help our clients collect on the round trip as this kind of day is clearly a sign of what's to come in the Fixed Income space.

The Fed can claim all it wants it is making money on its portfolio, when the Treasury sells 30Y bonds at 92-16 and they settle at 93-24 before the Fed starts buying (Fed buys shorter maturities which actually outperformed the bond on the rally), the government is not really making money on that trade. Today was a nice $170mm handout to the market. Hopefully that money is spent and leveraged into millions of subprime mortgage loans that revive the housing market... NOT!

Good luck trading,

Nic