Option Investor
Index Wrap

Are Treasury bond trader's clueless\?

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I've always held the belief that Treasury bond traders are the smartest traders around, but of late, and after today's trade, I'm beginning to wonder if that's the case. While the major equity indices all posted handsome gains in today's trade, Treasuries simply unraveled and posted what I'd consider to be more significant gains, as "group think" and an ever so slight abatement of core producer prices had bond traders gobbling up these fixed income instruments like there was no tomorrow.

Certainly today's inflation data at the consumer level, which showed overall consumer prices a stronger-than-expected 0.6%, now has consumer prices having risen 3.1% year-over-year, boosted largely by a 15% rise in energy and 4% in food prices. However, bond and Treasury bulls seemed shocked, and bought Treasuries along with other fixed income instruments as the core rate, which excludes the often times more volatile energy and food components, which reached a new 40-year low of 1.1% from November to January, but turned higher to 1.7% in May, appeared modest when measured against recent government figures that showed the economy growing at a 4.4% annual rate at the end of the first quarter.

U.S. Market Watch - 06/15/04 Close

I'm not berating bond traders, but how is such a move in Treasuries possible today? 19.3 basis points in the 5-year? 18.4 basis points in the 10-year? 15.6 in the longest-dated 30- year?

Some of our "inflation" gauges in Oil, currently depicted by the August Light, Sweet Crude Oil futures (cl04q) $37.63, which shows a 7.67% decline over the past 4-weeks (since April 14), August Gold futures (gc04q) $389.20, up 1.61%, but still below $400, and the CRB Index (cr00y) 266.62 now back below that 270 level we had made a benchmark from several weeks ago, may all have been suggesting that other market participants weren't overly worried about consumer prices.

I've shown the 20-day percentage change in the U.S. Market Watch. While it would be incorrect verbiage to say the 10-year yield has fallen 2.13% the past 20-day's, the point I would be trying to make today is the forceful lower yield in today's trade, relative to the past 20-days. Meanwhile, oil is more notably lower, but gold and CRB Index (cr00y) relatively unchanged.

Treasury bond traders seemed shocked today.

In yesterday afternoon's Market Monitor, just prior to the close, I ran through some of our inflation checks. I also made note that our "junk bond" security that I find useful to monitor had the Pacholder High Yield Fund (PHF) $8.72 +1.75% having been trading sideways the past 9 sessions, despite the 10-year yield having risen from a yield of 4.655% to yesterday's close of 4.870%.

Aside from any "option-related" action I was following in various option chains on the major indices today, I had noted at 02:31 PM EDT that the Broker Dealer Index (XBD.X) 123.11 -1.17% had fallen to unchanged levels and had been seeing a "prolonged" intra-day decline after matching its morning highs just prior to 01:00 PM EDT.

A quick check of some brokers showed Lehman Brothers (NYSE:LEH) $73.02 -4.03% leading weakness when down 2.32%. I thought to myself "this is a bit surprising considering today's strong trade in Treasuries, where LEH is one of the biggest bond houses." Before the bell, LEH reported upside earnings, gapped up to trade a session high of $76.80, then faded to hold $75 intra-day, but when $75 was broken, fell to its close and weighed heavily on the XBD.X today. Market Snapshot / Internals - 06/15/04 Close

The major indices faded a bit from their mid-session highs, but after having said earlier in today's session that today's trade was shaping up to be very similar to what we saw Thursday of last week, A/D lines at both the NYSE and NASDAQ finished stronger, as did the NH/NL indications at the NYSE and NASDAQ.

It's PRICE that seems to be mattering most, as is often the case, where I still feel that much of what we're seeing right now, is a constant gyration where this week's Triple Witch is having greater impact on trade, and most likely will into Friday's close. It may also have BIG impact on next week's trade, which I hope to provide some insight toward, later on in the wrap.

Pivot Analysis Matrix -

While rather simplistic, I feel quite a bit of tension into tonight's close. Not necessarily from bulls and bears, but just what the heck options market makers are going to "try" to do, or better yet.... "have to do." For the most part, today's highs (tomorrow's DAILY R1s) and today's lows (tomorrow's DAILY S1s) would be some levels to me monitoring very closely, where using the Dow Industrials (INDU) 10,381.43 +0.44%, which close up 46 points does find correlative resistance at DAILY R1 and MONTHLY R1 (which it has traded this month), but a break much above there (10-point above) could trigger some unraveling for bullish gains to DAILY R2 and correlative WEEKLY R1, which NONE of the equity- based indices have been able to trade this week.

Earlier this afternoon, AFTER I had profiled a bullish day trade in the Semiconductor HOLDRs (AMEX:SMH) $37.50 +1.35% from the $37.60 level (stopped out at break-even on price), I saw that the Semiconductor Index (SOX.X) 471.30 +1.25% had traded a session high of 475.02 and it dawned on me that 475 was the "Max Pain" level for June in the SOX.X. I have no regrets for profiling this bullish trade. If the SOX.X had broken 475, perhaps tomorrow's DAILY R1, then SOX.X at its WEEKLY Pivot (478.98) would have carried SMH bulls to my bullish target.

Fact at tonight's close is that the SOX.X didn't make the break, and we'll look at some intra-day charts of how I think we have to tie things together heading into tomorrow, and even into Friday's close.

As noted previously, when Lehman Brothers (LEH) broke the $75 level and had the XBD.X turning fractionally red, that also marked today's high in the S&P Banks Index (BIX.X) 347.52 +0.9% as it was challenging its WEEKLY Pivot.

I'd begin to build some near-term resistance observations with SOX.X 475 and BIX.X 349.

10-year Treasury YIELD ($TNX.X) Chart - Daily Intervals

For impact more than anything, if the above chart were that of a stock, we'd say "that's impressive!" Not only the rise in YIELD since the March relative lows of 3.7%, but today's single-day decline, where in the context of the narrow WEEKLY Pivot levels, today's turn was similar to an equity index trading above its WEEKLY R1, then falling to WEEKLY S2.

S&P 500 (SPX.X) Option Chain - Sorted by most active

I wanted to quickly look at the SPX most active, and it may not be what you and I would have thought would be amongst the most active. With PINK arrows, I note some volume levels as being notable relative to open interest. The September 1,135 call/put would most likely be some continued rollout from June. However, what it the HECK is that Aug 1,200 call (SZPHT) doing, where average trade size is institutional at 2,049 per trade? Could be a premium seller, but if interpreting both sides of the trade (bullish/bearish) somebody sees something roughly 4-points either side of 1,200 next month, and that notably higher that where we're at right now.

In Monday's Index Wrap, I had highlighted both the June 1,125 call/put and June 1,135 call/put. Note today that the 1,125 calls get little attention, but the 1,125 puts get greater attention. Open interest has built in BOTH as of Tuesday's trade.

Now... look at their average trade size, but also consider OPEN interest. In my opinion, the trade size is "retail" (you and I). One opinion I have on this is that it is "easy" to sell 50 contracts naked on the SPX 1,125 put, rake in a cool $11,350 today.

What happens on a break below SPX DAILY S1? That's why I'm keeping a rather close eye on the VIX.X right now. Remember, a naked put seller takes on the OBLIGATION to buy the SPX at 1,125.

I'm not saying the "retail" trader is wrong, we know they can be after watching short interest and commercial shorts build as the SPY and QQQ marched higher all last year. Just understand on a near-term basis what can happen if they all head for the door if they've over leveraged and the "quick buck" suddenly evaporates.

I can't say for sure, but the recent session's gaps up and down, (see the daily percentage gain/losses in the near-term June options) have been pleasurable for some, but equally painful for others.

S&P 500 Index (SPX.X) - Daily Intervals

For a moment, lets place option expiration aside and at least realize that today's close reverses about 1/2 of yesterday's declines (all of them at one point) where the rebound came on a retest of our broken downward trend (resistance broken becoming support). Now back to option action. Last night I was looking for a naked put trade in the SPX, but on a decline to 1,115. Today's high volume in the June 1,125 puts wasn't a bad trade, where RISK to WEEKLY S2 being assessed, was a high probability trade with expiration nearing. It's the LIGHT volume in the 1,125 calls, and the lower average trade size in the 1,125 puts that suggests the bulk of put sellers was "retail" oriented.

Semiconductor Index (SOX.X) - 10-minute intervals

One part of trading is taking a chance to seek profit in anticipation for gain, where upside looks to be present. I think the above intra-day chart of the SOX.X gives some good technical support-resistance trade. I "had" to take a chance from the bullish side (some buy programs, declining VIX.X and VXN.X) to give the SMH a shot from the long side. Only reason I raised the stop to breakeven was the realization of what looked to be taking place (VIX.X and VXN.X started to rise again after SOX.X edged off 475). It's a tough trade into expiration, and I'm using tight stops as Triple Witch expiration can become VERY volatile, it is difficult to try and monitor option unraveling, which can really move and index, and a stock.

OK... now let's take a look at an intra-day chart of the S&P Banks Index (BIX.X) 347.52 +0.90%. Good one here as this index does NOT trade with options!!! Maybe a more "natural" trade.

S&P Banks Index (BIX.X) - 10-minute Intervals

If I had not been more focused on the SMH and QQQ today, I might have noticed that the BIX.X and SPX.X had both gotten to their WEEKLY Pivots at about the same time. Maybe the BIX.X, which doesn't trade options might not have "confirmed" the SPX.X 1- point move above its WEEKLY Pivot. SPX afternoon and session low of 1,128.84 was 0.01 above its WEEKLY Pivot. For the most part, BIX.X and SPX.X traded "identical" today. BIX.X without options can become a good "natural" trade perhaps offsetting any option influence found in the SPX.

Now, I do make note that the money centery KBW Bank Index (BKX.X) 96.85 +0.62% does trade with options, and there are common components between the BIX.X and BKX.X, where any attempt by the BKX.X to gravitate back HIGHER toward its June "Max Pain" of 99.00 could have bullish influence on the BIX.X.

NASDAQ-100 Tracker (QQQ) - 10-minute intervals

I'm marking SOX.X 475 against the QQQ's WEEKLY 38.2% retracement as a correlation. However, I might make note that without the impressive gain from index heavyweight MSFT in today's trade, with the SOX.X pinned below 475, then QQQ might not have made it to $36.99. On the above chart, I forgot to market the MONTHLY/WEEKLY pivot retracement overlap down at $36.32, but it is there, and I'd eyeball the SOX.X equivalent of 465, which is really Monday's close.

Jeff Bailey

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