The liquidation of U.S. Treasury futures positions may reignite a popular bond market bet that was previously battered as traders reduced expectations for aggressive rate cuts from the Federal Reserve. This adjustment is prompting corporations to unwind leveraged positions, with some firms closing short-term U.S. Treasury short positions and others closing long-term bond long positions; this is expected to continue driving the purchase of short-term bonds and the sale of long-term bonds, widening the gap between the two.
Prior to the end of last month, this steepening of the yield curve had been steadily occurring, as short-term rates typically drop the most when the Federal Reserve eases monetary policy. However, this move stalled after the monthly employment report highlighted the resilience of the U.S. economy, raising doubts about how quickly the Federal Reserve will continue to cut rates.
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Citi strategist David Bieber said this shift has prompted investors to reduce leveraged bets in the past few weeks, "prompting positions to be rapidly reduced from extreme levels."
This liquidation can be seen in the changes in open interest over the past week, when the risk of 5-year and 10-year U.S. Treasury contracts was significantly reduced, indicating that traders are closing positions. Together with a similar trend in long-term bonds, this can support a steeper curve by driving outstanding performance in short-term bonds.
In the past few trading days, there has been evidence that as the market rebounds, the open interest in some markets has decreased, with investors buying to close short positions. Bank of America strategists Meghan Swiber and Anna (Caiyi) Zhang said in a report that recent dynamics have made long-term bond positions "vulnerable and may support further bear steepening."
Here is an overview of the latest position indicators in the interest rate market:
JPMorgan Survey
In the week ending October 15, JPMorgan's survey of client U.S. Treasury positions showed that net long positions rose by 9 percentage points to their highest level in five weeks. Meanwhile, neutral positions rose by 2 percentage points, and short positions fell by 11 percentage points.
Most Active SOFR Options
The largest changes in open interest for SOFR options over the past week included the rise in put options at 95.6875 and 95.75 on December 24, following a large amount of buying of SFRZ4 95.75/95.6875/95.625/95.5625 put options, while the SFRZ4 95.8125/95.6875 1x2 put spread was also heavily bought.SOFR Options Heatmap
In the SOFR options expiring in June 2025, the 95.50 option remains the most heavily held option in terms of open interest, with a specific amount of risk held in call and put options on December 24th and put options on March 25th. Recently, there has been an increase in trading activity near the 95.75 strike price, which is the second most active trading following recent capital flows (including the SFRZ4 95.75/95.6875/95.625/95.5625 put spread strategy).
CFTC Futures Positions
CFTC data indicates that leveraged funds covered their net short position of approximately 38,000 10-year U.S. Treasury futures during the week ending October 8th. Concurrently, asset management firms closed out about 57,000 10-year U.S. Treasury futures during the same period, shifting to a net long position.
Rise in Bond Put Option Premiums
The premium paid to hedge against the sale of long-term bonds has reached its highest level since April, while trading in 2-year to 10-year U.S. Treasuries is close to neutral. Last week, the yield on 30-year U.S. Treasury bonds broke through 4.42%, and the rise in long-term put and call option premiums triggered the sale. The increase in premiums coincided with a rise in implied volatility, with the MOVE index reaching its highest level since December of last week.