Treasury traders start betting on losses on US bonds

(Bloomberg) — Traders are starting to bet on losses in the U.S. Treasury market as they adjust to a more gradual pace of interest rate cuts by the Federal Reserve.

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Since a buoyant September jobs report late last week, bond traders have abandoned long positions in the futures market as part of a broad unwinding of bullish bets that were conditioned on a series of big rate cuts this year and into early 2025.

At the same time, bets on losses on US bonds are starting to emerge. According to a survey by JPMorgan Chase & Co. For Treasury customers, the move has led to the largest outright short position in the cash market since February 2023. Ten-year government bond yields stood above 4% in London on Wednesday morning.

There is “an appetite for new short risk ahead of this week’s inflation data,” Citigroup Inc. strategist David Bieber wrote in a note Tuesday.

The new short positions are being formed ahead of Thursday’s key inflation data, which could further boost traders’ bets on monetary policy after last week’s jobs data renewed the specter of price pressure. While the latest consumer price index is expected to show a further slowdown, any positive expectations could trigger a larger shift toward short positions.

Fed swaps currently factor in about a 21 basis point rate cut premium at the Nov. 7 policy meeting and a combined 50 basis point rate cut at the two remaining meetings this year. Prior to payroll figures, approximately 66 basis points of combined cuts had been identified at the December meeting.

The recalibration is stark, especially in the futures market. Open interest, or the number of positions held by traders, has fallen sharply in contracts tied to the Secured Overnight Financing Rate in the days following the employment report.

In the December 2024 term, the two-day position reduction was about 223,000 contracts, representing a risk of $5.6 million per basis point, according to CME data released Tuesday. The contract has sold off sharply in that period, signaling the demise of bullish bets as traders revised the central bank’s policy trajectory for this year to factor in less aggressive easing.

Long positions are also disappearing on the cash market. JPMorgan Treasury’s latest customer survey showed that traders went net short last week for the first time since April 2023.

The story continues

Meanwhile, in the SOFR options market, new positions since Friday’s payrolls have shifted to hedges aimed at an even more gradual easing — a quarter point in November and then a pause in December.

Here is an overview of the latest positioning indicators in the interest rate market:

JPMorgan survey

In the week before October 7, JPMorgan clients reduced their long positions by 9 percentage points and added 3 percentage points to their short positions. The result was the largest outright short position since February 2023. Neutrals remain high at 67 percentage points, marking an increase of 6 percentage points this week.

Most active SOFR options

The biggest positioning shift over the past week came from strikes related to structures around December 2024, as traders looked to add bearish positions following Friday’s jobs report and the subsequent rerating of the Federal Reserve’s policy path. One notable flow was the heavy buying of the December 24 95.5625/95.4375 put spread, a position that targets just one 25 basis point rate cut during the two remaining policy meetings this year. Additional downside flows include buyers of 95.8125/95.6875 1×2 put spreads from Dec24 and put trees from Dec24 95.8125/95.75/95.6875.

SOFR Options Heatmap

For SOFR options through June 2025, the 95.50 strike remained the loftiest, with a large number of calls and puts at the December 24 level. Recent flows around the strike have triggered immediate buying and downside activity, including SFRZ4 95.625/95.50 put spreads bought with SFRZ4 95.5625/95.4375 put spreads. The second most populated strike is the 96.00, where recent flows include buyers of the Jun25 96.00/95.50 1×2 put spreads with the SOFR Jun25 96.25/95.625 1×2 put spreads.

Hedge funds cover short positions

Leveraged funds hedged about 57,000 10-year bond futures equivalents for a net short position on the Treasury futures strip in the week to Oct. 1, CFTC data shows. During the same period, asset managers added approximately 152,000 10-year bond futures equivalents to net long positions. In SOFR futures, asset managers have unwound net long positions at approximately $4.4 million per basis point of risk.

The premium for put bonds is starting to rise

The premium paid to hedge the Treasury market has once again shifted to put protection, indicating traders are paying a higher premium to hedge a bond market sell-off due to a rally. The premium is most expensive at the long end of the curve, evidenced by the skew favoring puts on long bond options. The shift has captured the market sell-off, pushing 10-year yields to 4.05% on Tuesday, the lowest level since early August.

(Updates with latest government bond prices in third paragraph.)

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