Euro Bund/T-note Spread
On Friday, October 10th the December Euro bund/T-note spread closed below the rising weekly 15-bar Moving Average for the first time in a year and signaled a bearish trend change. This also tripped the wire for a short sale signal. The blog initiated a hypothetical short position of selling one December Euro bund short at 150.40 and simultaneously buying one December T-note at 126-17.
The September 30th contract high of 25.06 (premium bund) was our line in the sand for the short position. Therefore, we were risking a two-consecutive day close above 25.16.
Although the December Euro bund/T-note spread has not yet closed above 25.16 for two days in a row, there have been several one-day closings higher than 25.16. Therefore, we are going to recommend closing out the hypothetical short position right here at prices of approximately 152.31 for the December Euro bund and 127-01 for the December T-note. The trade would have resulted in a theoretical loss of approximately -$2,382 on the bund (the bund is priced in Euro currency, so the exchange rate was taken into account) and a theoretical profit of approximately +$500 on the note for a net theoretical loss of approximately -$1,882 on the entire spread.
Fundamentally, the bund continue to outperform US Treasuries as the ECB has slashed rates into negative territory and monetary policy is poised to get even more accommodative, while the debate over higher US rates revolves around the question of “when” and not “if”. This has kept the multi-year bull market in the Euro bund/T-note spread intact and penalized us for the short sale attempt. However, we do know that the bull market will end at some point. A majority of the previous trend reversals in this spread have been followed by a new trend that lasts a year or even several. Therefore, we are going to go back up to the plate and take another swing when we get the right pitch.
Happily, the expected divergence between European and US interest rate policies has priced the March Euro bund/T-note spread one and a half points higher than the December spread. This means that we will be looking at getting short at an even higher level than our last attempt. We will have more to say on the subject soon.