Goldman Sachs Group Inc. and Morgan Stanley are telling clients to sell short-term Treasury volatility as weaker-than-expected U.S economic data has kept the yield curve in a tight range.
Measures of volatility in global bonds cratered after Friday’s weaker-than-anticipated U.S. payroll report, with Wall Street strategists now lining up to go short volatility over the summer.
Three-month 10-year swaption volatility — a measure of how much yields are implied to move — slid by the most in 10 weeks, pushing it down to levels last seen in mid-February before the chaotic global selloff later that month.
“With no clear catalyst in sight, a period of continued yield consolidation will mean further downward pressure on delivered vol,” Goldman Sachs strategists led by Praveen Korapaty in New York wrote in a note Friday.
Investors should sell three-month straddles on 30-year yields to capture the move, the strategists said, referring to a bet that yields will be unable to break out of their current range. That should help offset any loss on existing long-volatility positions, they wrote.
While flows were broadly limited in Monday’s early U.S. session, the recent stand-out theme of short volatility structures via 10-year strangle sales reemerged, including one bet for a premium of $3.75 million.
Mixed jobs data has clouded the economic outlook and looks set to deter the Federal Reserve from announcing the start of tapering, with bond yields consolidating as a result. Selling volatility as a way to generate enhanced yields was already gaining in popularity before the payrolls data.
One favorite expression among traders has been to sell so-called strangles — a structure made up of out-of-the-money call and put options — expiring in either August or September.
A measure of three-month volatility in the U.S. currently implies a break-even range of around 28 basis points for 10-year swaps and Treasuries, suggesting benchmark 10-year yields may move between 1.85% and 1.29%, versus about 1.57% on Monday.