Hedge Funds Burned by Fed Set to Unwind Bearish Rate Bets

Why Fed Officials Still See a 2015 Liftoff
  • Rates futures speculators were wrong-footed ahead of Fed
  • FOMC actions leave traders expecting lower yields for longer

Hedge funds and other speculators were ready to profit last week if the Federal Reserve lifted interest rates. Their bets proved wrong-footed, leaving traders poised to reverse course, according to TD Securities.

The net aggregate short position in all interest-rate contracts traded through CME Group Inc. was the largest since February as of Sept. 15. The wagers would’ve proven prescient if yields had spiked following the Fed’s Sept. 17 announcement.

Yet the positions went awry when the bond market rallied after the Federal Open Market Committee decided to keep its benchmark rate near zero and released a statement that put an unexpected emphasis on low inflation and an uncertain outlook for global growth.

“We saw a big net short position ahead of the FOMC as people were expecting a hawkish path from the Fed,” Cheng Chen, an interest-rates strategist in New York at TD, said in an interview Sept. 18. Some traders will probably unwind the strategy this week “massively, or at least in a notable way,” he said.

The combined positioning, spanning eurodollar futures to the longest-maturity Treasury contracts, extended to a net short of $24.6 billion as of Sept. 15, according to TD’s analysis of Commodity Futures Trading Commission data.

Benchmark 10-year Treasury notes yielded about 2.21 percent as of 1:53 p.m. New York time, down from 2.29 percent at the close of trading the day before the Fed announcement, according to Bloomberg Bond Trader data. The two-year note yields about 0.71 percent, down from 0.81 percent when trading wrapped up Sept. 16.

At last week’s meeting, Fed officials lowered their median projection for the funds rate in coming years. They now see the rate rising to 1.375 percent by the end of next year, down from a June forecast of 1.625 percent.

Guggenheim Partners LLC and Pacific Investment Management Co. are among money managers saying policy makers may wait until next year to raise the benchmark overnight rate.

“The introduction of global financial conditions is a new Fed condition and there is a very good probability that global volatility will not materially decline between here and the end of the year,” Scott Minerd, who oversees $240 billion as global chief investment officer at New York-based Guggenheim Partners, said on Sept. 17.

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