Paper Portfolio – April Update

An exciting month for the paper portfolio! I had an exceptionally proud moment, taking off my risk reversal on 7y Eur rates at exactly the right moment. This was my QE trade, a positive carry, skew selling leveraged play that made me EUR 1mio of paper profits. And I took it off before the most aggressive sell off in European rates in years, dodging an absolute hail of bullets. The green line indicates where I took it off.


This wasn’t just down to luck, though I admit from the above it certainly looks like it! It had become clear to me that there were no marginal buyers for size in European fixed income. With 7y bunds yielding -20bp at the time, I simply decided that there was no value at all in staying long and that the warnings I was beginning to get from my macro fund clients that they were itching for an excuse to sell bunds would eventually materialise. I didn’t expect or predict the sell off. I simply decided that the risk reward no longer favoured being long. In this, as we’ve seen, I was clearly not alone. In this sense, the story of my paper book is the story of the market over the past few weeks. I found also that my ‘super secret spain trade’ had blown up in my face because by being short of puts on BONOS i was in reality just running a massive long in fixed income. Having chosen illiquid instruments because I thought i was smart enough to try and take risk premium out of the market, I got murdered by that trade. I took it off a day ago, and the mark to market was around -600k. I charged myself 250k to unwind due to the exotic nature of the structure. Thinking about it, that might even have been too conservative.

I made another big error in failing to take off a GBP rates position I had being long of a receiver ladder. This was a straightforward error of misreading my spreadsheet, I had a positive mark to market of about 400k EUR and just didn’t see how soon the expiry was – so it’s going to expire worthless. Pretty frustrating but a good lesson in tidiness! Uncomfortable with the risk I have being short of tail risk in rates, i’ve now closed my JPY 1 x2 payer spread 3m early – for a nice enough 300k EUR profit.

In terms of positioning after the big move higher in European rates, I’ve kept my 1 x 2’s on 30y rates, and added a bunch of receiver flies that give me exposure to rates grinding lower. My portfolio therefore has a long bias – but if rates go too much lower I will be hurt by my USD and EUR 1 x 2’s.

1. Buy EUR 50mio Worst of 18-Sep-15 SX5E puts at 3453 / 1bio Rates Caps @ 70
For 64cts fwd prem
Entry: 17-Feb-15
PnL: 650k

Oh they laughed. Oh how they laughed. What a fool they said! Euro rates will never go higher, and if they do, surely it’ll be in response to the relative attractiveness of equity? Well said I to them, did you consider that every single discretionary macro manager in the world is now super long of Govies and Equities, all hoping to front run QE? Have you no respect for positioning? They did not. I didn’t get anyone into the trade and it is now my star performer. Trebled my premium already and hope to do even better as I’m very happy to be short equity here.

2. Buy 40mio 1y 1 x 2 Receiver spread on 30y EUR
0.90 / 0.55 strikes, Zero Cost
Entry: 25-Mar-15
PnL: 232k

Whilst 30y rates were so low I was looking for structures where I won by nothing really changing and did ok if rates went up. 30y rates are maybe 50bp higher than when I put this on, but still nicely in the money.

3. Buy 25k UB spreads vs RX spreads at -13.25
Entry: 31-Mar-15
PnL: -100k

Really rubbish entry level on this, badly mistimed, but even so I had the opportunity to take 3bp of profit a couple of times. I’m holding out for more like 6bp though – so prefer to just keep it. It trades in a range of -17 to -5 and I should have just waited for it to get to -16 or so before getting in. Never mind. Fundamental reasoning of a shortage of long term paper and RM preferring to barbell into 2y and 30y rather than owning 10y bunds < 1% is still sound and I still like the trade.

4. Buy 1bio 3m => 2y USD 0.90 / 0.785
1 x 2 Receiver spreads
Zero Cost
Entry: 13-Apr-15
PnL: 75k

As US front end rates are pricing 80bp of hikes in the first year, I prefer to position for some disappointment, and just keep eating the roll down. This trade positons for that. A big rally in front end would really hurt me, but rate hikes seem quite stubbornly embedded!

5. Long 50mio BTP 12/24 110.5 / 112 CS
Expiry: 22-Jun-15 for 32 cts
Entry: 17-Apr-15
PnL: -160k

I entered this after taking off my long EUR trade. I wanted to be long periph, and thought that periph spreads would hold up well. I didn’t count on a big sell off which has just made this trade irrelevant and cost me my 32cts premium!

6. Buy 50k OE Spreads at 30.7
Entry: 30-May-15
PnL: Flat

As vol is super elevated in the Eurozone, I prefer to be long of german bonds against Euribor for protection against event risk. Spreads of 5y germany to euribor are at multi year lows, so this affords some cheap protection.

7. Two clips of receiver flies:

Buy 1m10y EUR Receiver Fly EUR 100mio
0.8 / 0.7 / 0.6 for 18cts

Buy 1m10y EUR Receiver Fly EUR 50mio
0.9 / 0.8 / 0.7 for 18cts

Total PnL: -270k
Entry: 11th and 12th of May

With higher rates and higher vol, one can get good risk reward by doing flies on receivers. Paying 1.8 to make a maximum of 10bp – and I can only lose my premium. This is a summer ‘rates grind and go nowhere’ trade.

8. Buy 190mio 6m => 10y 1% Caps on EUR Rates for 13.2bp
Contingent on 2y US Rates < 1.305%

However, I also want to win if EUR rates explode! To that end – I own this cap on 10y EUR rates contingent on US 2y rates staying below 1.30%. They’re currently 90bp. The USD Digi costs almost 70% and the vanilla costs 25bp so considering that, the cheapening from the correlation is substantial. This is a pretty leveraged EUR US convergence bet.


2 thoughts on “Paper Portfolio – April Update

  1. Jason A says:

    I love keeping up with your blog but sometimes struggle to piece together the trades you mention. Are there any quick and dirty (I’d even take lengthy and sterile) primers you’d recommend for a derivatives novice?

    • Hi Jason,

      To be honest all the books one might buy on this are too general purpose – I recommend judicious youtubing and use of investopedia!

      Pricing money by Julian Wiseman is excellent but also pricey!

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