Recent U.S. options market trends indicate a shift towards short-term bullish bets as Vice President Kamala Harris gains an edge over former President Donald Trump in potential election face-offs. Traders are adjusting their positions in anticipation of Harris's possible victory, while reducing wagers on Trump's success. This shift is mirrored in the futures market, where net long positions in U.S. Treasuries have reached a three-month high. This reflects the market's uncertainty over the election outcome and preparation for potential volatility.
The change in polling has prompted traders to reassess their investment strategies. Previously bearish positions based on expectations of a Trump win are being revised, as his proposed tax cuts and aggressive tax agenda are perceived to elevate yields and trigger inflation. With the campaign in a stalemate, investors are preparing for an election outcome contrary to previous predictions.
According to Ian Lyngen, head of U.S. rates strategy at BMO Capital Markets, fluctuations in polls and forecasts make this election one of the closest in years, with an unpredictable process expected. The Chicago Mercantile Exchange (CME) data shows that the number of call options was four times that of puts, including a significant $5 million position aiming for the 10-year Treasury yield to drop to around 3.9%, down from 4.28%.
On Tuesday, the demand for bullish hedging persisted, targeting 10-year yields below 4%. Monday saw new long bets in the futures market, notably increased demand for longer-term bonds. Although traders brace for a possibly undecided election outcome, they are also closely watching economic signals ahead of the Federal Reserve's policy meeting. A report indicated robust service sector performance, raising the yield on the Fed-sensitive 2-year U.S. bonds.
Market expectations lean towards a quarter-point cut in the Fed's benchmark rate this week. However, economic and political uncertainties have heightened expectations for near-term volatility, causing a bond volatility indicator to hit its highest level in over a year.
A summary of the latest positioning in the rates market shows significant changes in U.S. Treasury holdings among clients, with direct long positions increasing and shorts decreasing, moving net longs to their highest since August 12, according to a J.P. Morgan survey.
SOFR options activity remained stable, particularly for December 24, March 25, and June 25 expirations. However, the 96.375 strike saw notable open interest growth with heavy investments in SFRM5 put options. The 95.5625 strike also attracted attention, with inflows involving SFRZ4 put options.
The SOFR options heatmap highlights the 95.75 strike as the most popular due to demand for December 24 expiration straddle options. Meanwhile, the 95.50 strike maintained its popularity across both calls and puts.
CFTC data indicates that asset managers increased their net long positions in 10-year Treasury futures by approximately 182,000 contracts, while hedge funds boosted their net short positions by about 86,000 contracts during the same period. Most notably, asset managers significantly altered their positions in 5-year Treasury futures, adding $870 million in net longs for every basis point risk increase.
Finally, the premium for bond-put options has decreased to neutral levels, although it remains higher for longer-term bonds compared to short-term ones. This trend reflects the growing demand for call options as traders position for potential rebounds in the bond market.
