Wall Street’s “buy-side” was not overly positive leading up to last week’s monthly employment number, which exceeded street expectations, a Bank of America Merrill Lynch report observes. These players were generally wrong for some surprising reasons and now the herd momentum is shifting, as derivatives positioning points to the potential for fund managers to further rotate into US equities as a result of the nonfarm payroll number. Managed Money and Leveraged Funds are also employing meaningful moves along the yield curve and in the oil and gold markets.
Stocks did not sell off in the face of positive economic news that might point to a rate increase
It is difficult to determine what is more important. The fact Friday’s non-farm payrolls for the most part exceeded even some optimistic estimates – 255,000 strong jobs with the unemployment number holding steady at a generally idyllic 4.9%. Of course there are those who might lodge accurate complaints about the study methodology and pattern details, but the same methodology has been generally used since the 2008 financial crisis and on this relative basis the numbers were positive.
The larger issue is how market participants reacted. Such strong job growth quickly raised talk of an interest rate hike. Rates have been at emergency levels mostly since the 2008 financial crisis and the prospect of raising interest rates has had a notably negative impact on markets.
Not this time.
Stocks were higher in the aftermath of Friday’s Non-Farm Payroll number, up near 15 S&P 500 points in early Friday morning trade and generally holding gains in a tight range all day. Stocks are off slightly Monday morning, consolidating from Friday’s tight range breakout.
The fact stocks were higher on economic news that was positive – and might embolden the Fed to tighten – might be the real positive news out of Friday.
Asset managers and leveraged funds were stock sellers coming into Friday
In this environment, BAML’s Research Analyst Jue Xiong and Technical Research Analyst Stephen Suttmeier look at the raw numbers behind CFTC data showing derivatives positioning.
Asset managers and “leveraged funds,” some of them executing traditional managed futures CTA strategies, were sellers of nearly $5.4 billion in S&P 500 futures last week, Xiong and Suttmeier reported, citing CFTC data.
Their brief analysis pointed out US equity futures are “not stretched” and predicted additional potential rotation into equities, but did not cite their methodology for making such a projection.
Separate analysis considering algorithmic signals notes some short-term buy programs may have been hit but mostly markets still remain in a consolidative phase, particularly in Europe. The recent range consolidation in a tight range from the middle of July until this past Friday was unusual from a pattern standpoint. Seldom does the S&P 500, the primary stock proxy, trade in such a tight range for such an extended period.
Leveraged funds selling $6.6 billion in ten year, with many buying the two-year yield curve exposure
Another market the report highlighted was the point of certain hedge fund trades at present. When Xiong and Suttmeier noted that Leveraged Funds had sold $6.6 billion of ten-year US Treasury notes and then bought $4.7 billion in two-year US Treasury notes. This yield curve “TUT spread” is sometimes used during times of anticipated market distress and is based on a projection that short term interest rates will rise faster than long term rates. When long term rates rise, it has been traditionally considered a sign among yield curve traders that the market believes the economic recovery is long lasting. QuantEdge Global, for instance, is reported to be engaged in a similar type of spread trade but the durations may not be exactly “Twos over Tens” as the TUT spread often interchangeably mandates.
“Managed Money” appears to like gold, with this reporting category adding $2.1 billion to net holdings, and sold WTI Crude contracts, taking $1.8 billion off the table over the past week, the BAML report highlighted.
Separately, certain short term algorithmic signals may have been hit in the oil market with an approaching mid-term buy signal approaching. Gold has been a back-and-forth momentum market that appears to be in a short term consolidation phase based on accumulation and momentum analysis, but this remains a relatively unclear market from a systematic standpoint.
Other adjustments BAML noted in the market were Market Neutral traders taking down their net long positions and equity Long / Short strategies decreasing net long exposure to 50% from 52% while Macro hedge funds appear to be positioning for higher interest rates.