December 2nd, 2008

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The Treasury freight train chugs on.

"There is nothing so disastrous than a rational investment policy in an irrational world" - John Maynard Keynes

U.S. backed fixed income securities have enjoyed one of the largest bull runs in history, yet looking at the COT data it seems that many futures traders were less than thrilled.  In fact, most speculators (small and large) have been decisively short  the market while commercials are heavily long. 

This doesn't mean that commercial traders are "smarter" than the rest, they are simply hedging their risk and happen to be on the right side this time around.  Remember, COT data suggests that commercial traders were also heavily long during the October bond plunge.  What we can get out of the COT data is the fact that if there are too many speculative shorts, the market is susceptible to buy stop running and short traders buying positions back on dips, which was evident in today's early morning comeback from negative territory.  In my opinion, short covering is in large part the driving force behind the current rally.  If commercials aren't budging and speculators are already short the market is left with few sellers.  At a time that people were looking to the stock market for what was supposed to have been the "mother" of short squeezes, bond shorts didn't see it coming. 

Insiders say that today's trade was dominated by spread trading and it was noted that call option sellers were active.  Volume was incredibly light and this leaves the market vulnerable to large price moves with little warning. 

The March bond is due for a ten handle correction to 121 (if you think that it sounds crazy, try typing it).  However, if you are "caught" in this move, don't get greedy.  I would look to downsize on dips, it is better to lose some than lose it all.  Likewise, the 10-year note should see a move much lower.  My first target is 116'16, but don't jump in front of the freight train.  I like buying out of the money puts, or lottery tickets a I often call them.  You should be able to get the 119 puts for about 20 ticks. 

Treasury Bond and Note Option Trading Recommendations

**There is unlimited risk in naked option selling.

November 26 - Buy the January 10 year note 115 puts for about 15 ticks.

November 18 - I like selling the January 130 calls for 30 ticks or better, but slightly more aggressive traders may look at the129 calls for 30 (this was getting filled today).   

• These are both well underwater, but we haven't given up on the long-term prospects.  We recommend holding on for now. 
• You may have taken our advice to roll into the March 136 calls for even money.  This lowers the delta and the margin, hopefully improving the odds of riding this out. 

November 20 - We were recommending to buy the December T- note 112 puts for about 19 ticks. 

·         November 24 - You can get in at a better price, you may want to buy the 113's.   

Treasury Bond and Note Futures Trading Recommendations

**There is unlimited risk in trading futures.

Flat

Eurodollar Futures Trading Recommendations

**There is unlimited risk in trading futures.

Flat

There is substantial risk of loss in trading futures and options.

Past performance is not indicative of future results.  The information and data in this report were obtained from sources considered reliable.  Their accuracy or completeness is not guaranteed and the giving of the same is not to be deemed as an offer or solicitation on our part with respect to the sale or purchase of any securities or commodities.  Any decision to purchase or sell as a result of the opinions expressed in this report will be the full responsibility of the person authorizing such transaction.