Bread and Butter

After a weekend spent thinking about a) Greece (that's a lot of dough, but they've somehow still managed to disappoint), b) the weather (temperatures plummeted for the long weekend), and c) estate agents (a more villainous, less industrious profession is difficult to find), Macro Man is now ready to think about something else.

So how about fixed income pricing in the US? No, not the back end of the Treasury curve, which rises and falls for a whole host of reasons, not all of which are obvious beforehand. No, Macro Man is looking at the short end, the bread-and-butter of a macro punter's book.

Yesterday's ISM was pretty impressive. True, a lot of the strength was "in the price" via the consensus forecast, but even that was exceeded. New orders moved back towards their highs of the cycle, while the headline is now approaching the highs of the last few cycles. Indeed, the only reading of the last 20 years to register higher than yesterday's 60.4 was observed in May 2004: ironically enough, the month before the Fed started hiking rates last time.

As of yet, of course, there is no serious mention of actually putting the funds rate higher- though Macro Man does know one or two guys who expect a rate hike relatively imminently. And while the FOMC minutes indicated that the committee is not yet prepared to countenance (or even really mention) asset sales, the groundwork for policy normalization is clearly underway.

How else to describe last week's twin announcements paving the way for a term deposit facility (note to Fed: please come up with more interesting names for your programs! All these acronyms are really starting to run together. Why not name one "Bob"?)

In any event, 3m LIBOR has now risen 10 bps over the last few weeks and at this juncture shows no signs of stopping. If we regress the last month's fixings and extrapolate them over the course of the year, we can see that LIBOR will approach 0.80% by year end.

Note that while a continuation of the recent trend may not be a reasonable assumption in the absence of any new policy developments, such an extrapolation would, on the other hand, be entirely consistent with both a gradual move towards normalization and, importantly, real-world borrowing and lending rates via the FX forward market.

In any event, if we compare the extrapolation with the June, Sep, and Dec eurodollar contracts, something funny happens. Each of the contracts is priced within a few bps of the line.
Sadly absent is the juice that was present in the strip throughout much of last year. Macro Man has bemoaned the lack of a risk premium in the strip on several occasions thus far this year, and this is just another example of that.

Small wonder, then, that despite the classic "macro trade" of Greece blowing up, many macro punters are suffering through indifferent returns thus far this year. There just ain't any jam on the bread and butter.