Yield Curve and Spreads


Typically, 5 day volatility is seen in any nation upon an interest rate rise or fall as yields and interest rates normalize to new levels. Fed Funds closed today at 0.91 and failed to reflect the new 1.12 expected level. When the Fed raised December 2015, DXY traded 270 pips from 97.22 to 99.32. The BOJ went negative January 2016 and USD/JPY ranged 286 pips from 115.93 to 118.79. The non example is the RBA cut September 2016 as the RBA slashed from 1.75 to 1.50 in a slow series at 10 basis points each time.

Will we see the traditional 5 day volatility is questioned based on the yield curve. 10 year minus 2 trades 0.79. Then the 30 and 10 trades 0.64. The yield curve is flat from both ends. 10 minus 5’s trades 0.41 and 10 year minus 5’s trades 1.05. Most important is the correct 10 year minus 3 month at 1.11. Fed Funds at 0.91 trades above 10’s and 2’s, 10’s and 30, 10’s and 5’s and below 10 minus 3 months.

The middle portion of the yield curve is slightly humped by 32 and 47 basis points which means either a transition to normal or the yield curve inverts. Fed Funds raises normally experiences a short end rise against a long end drop and means an inversion and guaranteed recession ahead.

The pairs to watch for volatility so far are JPY cross pairs in EUR/JPY and GBP/JPY. NZD always contains great potential as NZD mirrors the USD system. The recommendation is  trade NZD/USD and NZD/CHF together.

Brian Twomey

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