Trades for 3Q11

In no particular order, grouped by asset class:

NB: this is probably the hardest quarterly trade ideas list so far this year, stemming from the lack of clarity regarding near term macro direction. Obviously, if Greece blows up, all bets are off. I aimed for brevity – readers are welcome to challenge or question any of the ideas.

Stay Short S&P Variance Swaps

  • Implied Vol remains too high. 2yr realized vol is 16.1% and 1yr realized is 13.9% vs 1y variance swap at 25% and 9m variance swap at 24.1%. As the US is not going into a recession, this remains a good risk reward bet.
  • Model estimates suggest that the VIX can decline below 14.

Long Dax vs IBEX, equal Euro weighted

  • Relative growth differential is not adequately priced in. Austerity measures in the periphery will have a bigger impact on growth than expected, and growth will be weaker for longer than expected.
  • Germany will be less affected by higher rates / lower credit than Spain

Long Nasdaq 100 vs S&P, equal dollar weighted

  • Relative growth differential is not adequately priced in. On a forward basis, the Nasdaq is very cheap vs the S&P.
  • Nasdaq Index earnings continue to grow faster than S&P earnings
  • Long term trend has been upward for 5 years and looks set to continue after a pause:

Buy US 10-year Future August 125+/126/127 Call Tree for flat

  • Cheap bet that yields are not far from a floor. High print from the rolling 10y future over the past 12m is 128.
  • Matures on 7/22

Sell 5y Treasury Future

  • Net supply set to turn sharply bearish. (See comments from 6/24)
  • Data surprises set to revert to the mean
  • Insufficient Term Premium in the curve. There are different ways to measure this, but the first Fed hike is now priced for Nov 2012.

Sell USDCNY 12m Fwd

  • The NDF has rallied over the past month based on fears of a hard landing in China. Only a 1.2% appreciation is now priced in for the next 12m, the smallest amount since last May/June:
  • While I agree that China’s economy is in an investment bubble, it is not yet at the tipping point when the government is losing control. Sufficient liquidity can yet be unleashed to offset hard landing risks, so the slowdown is unlikely to be bad enough for China to devalue. This is probably a story for the next global recession.
  • Going into a presidential election year in the US, there will likely be increased political pressure on China for the appreciation to continue


  • Proxy on US 3yr swaps. As yields can’t get much lower, USDJPY probably has limited downside.
  • Higher relative 2yr real yields is also positive:

Q2 Trades Recap:

Trades are assumed to be initiated at the close of 3/21 with zero transaction costs.

  1. Short S&P Variance Swaps: Sold vol at 26.4 vs realized of 12.3. Net profit of 14.1 vol pts over the past 3 months.
  2. Long EEM vs EAFE, proxied by EEM and EFA: Net profit of 3%.
  3. AUD 3s10s Flattener: after being profitable over most of the quarter, this week’s sell off in AUD rates drove this trade to a 6bp loss
  4. Short Dec11 Short Sterling: BoE did not hike, and now people are talking about another round of QE. 42bp loss
  5. Long US 5yr Future: I sent out recommendations to take profit in early April. Profit of 1pt + 4/32nds
  6. Long EURUSD: Profit of 1%, although it was up almost 5% at one point
  7. Long CAD puts: I didn’t specify strikes and maturity, but pretty much any combination would’ve resulted in a loss
  8. Long NZDUSD: Profit of 11%

Success Rate: 63%.

Eh. In retrospect, I should’ve avoided the CAD puts and remembered to recommend taking profits on the AUD flattener.


4 thoughts on “Trades for 3Q11

  1. “Long Dax vs IBEX, equal Euro weighted”

    Half of IBEX consists of Santander, BBVA and Telefonica, all of which are multinationals making their earnings mostly outside Spain. It probably isn’t that good a proxy for Spain itself, you would need to construct your own portfolio for that purpose.

  2. Great timing on the 5y rate short … I think you should look at short dated swaptions (gamma) in 5’s and 10’s as well … the 5y point has been realizing much better than the 10y, but the pricing has 10y tails over 5y in implied terms

    I think USDJPY is range bound and would consider a double no touch – it will follow US short rates up, but dealers are very short long dated vega (first PRDC notes and then selling high strikes to macro hf’s a few years ago) and have bought a lot of gamma as a result / will hedge the bejeezus out of it … have any fx structurer visit you and they will suggest selling the usdjpy forward vol …. maybe CHF shorts – some unwind of the safety trades post Greece

    Long CAD …… & short end forward (1y1y, 2y1y, 2y2y) rates of the CAD curve seems a short ….. particularly with the high cpi/core print, and oil

    might consider otm spx calls – a lot of people seem under pressure to reach for risk, with dealers behind budgets, some big name hf’s printing small or sino-forest ytd numbers ….

    1. Thanks qeqe. As they say – better lucky than good.

      Yup, the belly is usually the high beta point on the curve. I haven’t looked at implied volatility relative value – I’ll have to dig into it a bit more. Lots of risks to manage there – delta, gamma, rolldown/carry.

      I haven’t thought of dealer positioning on $JPY – that’s a good point. Maybe buying vega vs gamma in USDJPY is the way to go.

      I agree that CAD curve is a short. Trouble is that it’s highly correlated to the US curve. FYI the high core CPI recently appears to be due to seasonality effects, according to GS, so it’s supposed to come down.

      I put on some 1×2 call structures on the S&P a while back. They were pretty cheap given the vol skew. I am actually thinking about delta hedging it after the recent move. I definitely agree that S&P should be higher by year end.

      Thanks for the ideas!

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