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Nic Lenoir's Advice What To Do On POMO Days

Tyler Durden's picture




 

Submitted by Nic Lenoir of ICAP

I read last year an analysis on trading the S&P 500 on days where the Fed conducts Permanent Open Market Operations (POMO). It basically stated that pretty much the entire rally from March to October was driven by POMO and that the advance of the market on those days was equivalent to the entire advance of the market over that period. It's not the exact conclusion but close enough if I recall correctly.

With the Fed starting to reinvest interest payments on its assets in Treasuries, I decided to dig in and see for myself with the help of my colleague Mike Lawrence. The results are calculated using the 60 occurrences which makes them statistically relevant.

The results are graphically quite easy to interpret, but basically here are my conclusions: For the S&P from March to October the market rallied roughly 0.2% a day, and on POMO days that number is 0.25% (the day before is 0.29%, the day after is 0.15%). That basically tells me that from an S&P point of view there is not much to it. There is definitely a tendency the day of those operations to rally post auction from 11AM into the close (0.12% on average) which is more pronounced than other days, but it should be more a timing consideration to factor into one's trading decisions that a real trading opportunity of its own.

For Fixed Income however the results are significant. The Y axis on the charts in the attached documents is the Chang in price of the 10Y Treasury bond converted in basis points (-3bp corresponds to a sell off of 3bp, or yields higher by 3bps). Apologies if it is counter intuitive that's how my program spit the results out. First of all, coincidence or not, the day before the repurchase the market sold of an average of 1.2bp, compared to 0.5bp being the average from March 2009 to October 2009. But more importantly we see that the 10Y Treasury has a tendency to rally AHEAD of the fed repurchase operations, and post 11AM, the market sells off an average 1.2bps which is between 3 and 4 times the average magnitude. Another point of interest is that the dispersion of hourly moves is significantly greater during that day. It does not seem to be tradeable using the MOVE index, but from an intraday perspective volatility spikes and the market has a clear pattern of rallying into POMO and selling off afterwards.

As much as I would like to have uncovered evidence linking more directly the government's actions to equity price action, the facts do no corroborate. From a fundamental standpoint there is absolutely no doubt that the liquidity injection by central banks and government stimulus was 100% of the recovery both economically and in asset prices, but it is not tradeable on a micro level. The actual US Treasury purchases does provide opportunity and there is no doubt that dealers are cleaning up on this.

Good luck trading,

Nic

Graphic results

 

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Fri, 08/20/2010 - 14:13 | 533306 DavidC
DavidC's picture

Nice one Nic, thank you.

DavidC

Fri, 08/20/2010 - 14:17 | 533316 Rogerwilco
Rogerwilco's picture

Going long on the last one wasn't such a great idea. I think somebody is playin' mind games with some in-duh-vidual investors. That's not very nice, and I'm so glad we have a vigilant SEC to look after the interests of the little people.

Fri, 08/20/2010 - 14:27 | 533334 Tripps
Tripps's picture

so buying stocks in early to mid 2009 by fed caused people to go shopping at walmart, mcdonalds, buy tractors from deere, buy iron ore in china, etc. 

 

 

there was a normal inventory cycle that would eventually come back anyway. didn't matter if ppt was real or not

Fri, 08/20/2010 - 14:33 | 533347 bullandbearwise
bullandbearwise's picture

You can check FOMC/POMO activity vs. the S&P 500 for any period back to 2001 here:

http://www.bullandbearwise.com/FOMOSP500CustChart.asp

Fri, 08/20/2010 - 14:35 | 533353 greg merrill
greg merrill's picture

I prefer to mine Veldspar on patch days.

Fri, 08/20/2010 - 14:35 | 533354 firstdivision
firstdivision's picture

SPX going to hit green by EOD.

Fri, 08/20/2010 - 16:06 | 533599 Takingbets
Takingbets's picture

Close but no cigar. :-)

Fri, 08/20/2010 - 14:43 | 533358 EB
EB's picture

 

Nic, I participated in that study and report.  Once the effect became well-known--and it was most pronounced in the final hour of trading--the equities edge disappeared--largely by August 2009.  If you measured pre and post auction, results would not be as strong because of a predictable lunchtime dip that shaved off pts from the day's total.  Tuesday Aug 17 10 was probably a one-off.  

 

Thanks for the Treas. info.  Isn't there a similar effect into the WI trading prior to and then just after auctions?  Anecdotally, seems equities are also affected around the 2/5/7 yr auctions.


 

Fri, 08/20/2010 - 14:54 | 533399 The Franchise
The Franchise's picture

Today's ramp was so friggen easy to call. Unreal. Double bounce mid-day, then up up and away.

Fri, 08/20/2010 - 16:02 | 533589 greased up deaf guy
greased up deaf guy's picture

i'm not a bulltard by any means, but the late-day action yesterday and today could be a healthy dose of short covering after a rather volatile week. who knows...

Fri, 08/20/2010 - 16:29 | 533647 DavidC
DavidC's picture

greased up deaf guy,
I'm inclined to agree, stocks are looking oversold on my daily (and, still, weekly) basis. There wasn't any real correction towards yesterday's close and (interestingly) following the POMO.

Mind you, I said yesterday that the Euro looked oversold and it came off a lot today following Weber's comments!.

DavidC

Fri, 08/20/2010 - 15:08 | 533441 youngandhealthy
youngandhealthy's picture

What a surprise! When FED states they are going to buy (demand) the prices go up. When UST say they are going to sell (supply) the prises fall.

Sarcasm!

I like they way he explain that it doesn't matter for ES on the microlevel.

Fri, 08/20/2010 - 15:15 | 533458 william the bastard
william the bastard's picture

It's never made sense that upon a liquidation of planet Earth's "safest" investment one would move the proceeds to Binion's sidewalk Wheel of Fortune.

Sat, 08/21/2010 - 01:16 | 534413 fxrxexexdxoxmx
fxrxexexdxoxmx's picture

Yeah but the pay out on the blue $20.00 is like 100 gizillion to one.

Sat, 08/21/2010 - 03:52 | 534497 equity_momo
equity_momo's picture

Great work Nic, always appreciate your posts.

Sat, 10/02/2010 - 06:43 | 620599 Herry12
Herry12's picture

There are certainly a lot of details like that to take into consideration.I read and understand the entire article and I really enjoyed it to be honest.
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