This week’s CFTC COT report shows our Inverted Risk-On/Off trade as represented by the large speculator’s net position a substantial paring down of the risk-on long $FV_F while re-initiating a material increase in a net short $ES_F position increasing from -76,033 contracts to -187,935.
With specs basically flat their large long positions and commercials now a touch long after having been largely short no doubt hedging their record long inventory inventory also suggesting a substantial paring down of a long position we can conclude the market was very long for QE 3 as we mentioned in The Great Unwind but has now substantially de-risked. The 5YR has held 1.20% support and with the market now basically flat there should be much less pressure on higher yields unless stocks take another leg higher.
In fact as we suspected in last weekend’s Risk-On/Off Update after flattening out their long $FV_F position specs are now turning their attention to the long end substantially increasing their shorts. In the TY futures contract where specs were short only 23k contracts just 3 weeks ago they are now short 180k. With QE 3 off the table for now the support for the long end is likely to wane and if stocks continue to lift with economic performance improving producing faster nominal GDP the long end belongs at much higher levels and in the very crowded low coupon fixed income market duration risk can rise rapidly as we witnessed 2 weeks ago.
This Risk-On short the $TY_F and $US_F trade in the short run will likely hinge on equities. If the equity market continues to back and fill correcting lower while impulsing higher, the pressure on interest rates may become to intense for the Fed to harness. Either way something is going to give. The two major global assets, US equities and US treasuries are now being heavily shorted by the speculative community. While we think the biggest risk to stocks in the short run is a spike in interest rates, these short positions likely won’t be both correct in the long run.