Morgan Stanley Suggests Another Fed Frontrunning Play, This Time Without Touching Stocks
There is no debating that the FOMC announcements and liquidity injections are if not the key factor that drives stocks then certainly one of the main ones. Yet for those who wish to frontrun the Fed without participating in the stock market, which these days would be pretty much everyone, as the risk of a market crash increases exponentially with every single day that equities ramp ever higher not on fundamentals but merely liquidity, Morgan Stanley has found another cheap FOMC-coincident trade that at least on the surface allows for a quick and painless pick up in a few bps, and can be conducted without touching stocks at all.
As Jim Caron points out, one of the most visible technical trades surrounding FOMC announcement days is a very regular move in the 10s30s, which traditionally steepens by over 5 bps into the day of FOMC announcement, only to see a flattening in the 5 days following.
- Post FOMC, the 10s30s curve steepened to a local high of 121bp
- Only 3bp short of its all-time high of 124bp (the previous FOMC meeting on August 10)
- Sharp FOMC-day moves in 10s30s are typically a fade
- When the 10/30 curve had large steepening moves going into FOMC (e.g., >=5bp), it flattened six out of seven times
- Average post-FOMC flattening gain of +5bp over the following week
- However, certainty of flattening gains drops in the second week to an additional +3bp, on average
This can be seen on the table below:
So for everyone who wishes to feel just like Bill Gross (while the latter is still in the private sector, and all mortgages haven't been nationalized as per his soon to be advice to the president in official capacity), the next time the FOMC is meeting to announce something (which incidentally will be November 3, the day QE2 is most likely announced), go long the 10s30s steepener into FOMC day, then take profits and put a flattener on. Or so Morgan Stanley advises.
Alternatively, and far more simply, just buy everything that is not nailed down as per David Tepper. After all Bernanke will soon have no choice but to buy it from you.