Traders' Roundtable

June Eurodollar (ED) futures close Fri 27 Jan 2012 at 99.5150
‘System1b’ says go long these futures.
My understanding is that ED’s are capped at 100 (which implies a nominal interest rate of zero percent)
They cannot trade above 100. (or so says conventional wisdom)

A calculation reveals that the maximum profit that can be made from June ED is $1212.50
(i.e. (100-99.5150)*2500BPV)
Note also that the further out contracts (i.e. Sep & Dec) only differ from June by about $50, therefore there appears limited scope for being able to keep rolling into lower prices come rollover date.

I’m questioning the logic of this trade with limited upside.

Two questions;
1) In your opinion, do you take this trade.

2) Can anyone suggest any possible (& realistic) scenarios whereby ED can rise beyond 100.
That is, nominal Interest rates to fall below zero. . . . Is there any precedent for this in the real world? {*}


* It can occur in the world of Central banking but that's hardly the 'real' world

trading real world examples-
from what I've read, the contract specs don't limit the price to 100 and below.
there are bids in calls 100 and above.
euroswiss traded above 100 last summer.

real world reasons-
you believe the risk of any current investment is greater than you want to take. you are more concerned with getting 99 cents on the dollar rather than any return so you are willing to park money in eurodollars rather than risk losing 10% on any investment.

depending on your definition of inflation we could already be in a world with nominal interest rates below zero.
people parking cash in their mattress or in the ground for safe keeping are already paying over 100 for eurodollars aren't they?

My understanding of ED is the settlement price is 100 - 3 month Libor. i.e. as rhc says, if 3 month Libor = 0% at expiration, then the settlement is 100. So, unless Libor goes negative, ED is capped at 100. Question is, can ED Libor go negative?

I searched around and could only find examples of Swiss Franc 3 month Libor going negative. This was a strategy on the part of the Swiss bank to weaken the Swiss. Not sure it has ever happened for Eurodollars, though lots of people were asking the question "what if ..." during the crisis.

7432 wrote: . . . you are more concerned with getting 99 cents on the dollar rather than any return so you are willing to park money in eurodollars rather than risk losing 10% on any investment.

That's interesting.
So if the world is going badly to hell & you have a stackload of money you will naturally opt for the 'safest' investment which may be the one that gives you back 99c for every dollar 'invested'.
Personally I would just put in under my bed and get back 100c in the dollar (loss of purchasing power not withstanding). . . . but of course if one has billions then the under bed option may not be feasible.

I bought actual T-Bills (not the futures) for $1.0001 and they matured 91 days later for $1.0000. Judging by the size of the auction, I was not alone.

I imagine these T-bills were purchased due to some financial concern . . .during the 2008 crisis perhaps? (i.e. return OF capital as opposed to return ON capital)
The T-bill option can be a good strategy for those that sleep on futons

sluggo - I was in there with you on those bills - it was back in 2008...strange feeling paying US to hold my money.

rhc wrote:June Eurodollar (ED) futures close Fri 27 Jan 2012 at 99.5150
‘System1b’ says go long these futures.
My understanding is that ED’s are capped at 100 (which implies a nominal interest rate of zero percent)
They cannot trade above 100. (or so says conventional wisdom)

A calculation reveals that the maximum profit that can be made from June ED is $1212.50
(i.e. (100-99.5150)*2500BPV)
Note also that the further out contracts (i.e. Sep & Dec) only differ from June by about $50, therefore there appears limited scope for being able to keep rolling into lower prices come rollover date.

I’m questioning the logic of this trade with limited upside.

Two questions;
1) In your opinion, do you take this trade.

2) Can anyone suggest any possible (& realistic) scenarios whereby ED can rise beyond 100.
That is, nominal Interest rates to fall below zero. . . . Is there any precedent for this in the real world? {*}


* It can occur in the world of Central banking but that's hardly the 'real' world

The trade could still make sense for some people. IMO those who are risking around 0.15 still have potential for a 3.X:1

If you ask me though, my vols have been a little to high to take a trade like this. Especially when you consider the slippage that the ED can swiftly provide you.

I believe Japan was the first place I ever saw negative interest rates. The WSJ ran a story from mid-January of this year about how the German six-month bills are now yielding negative 0.0122%, the first for that country. Two ways (of many) to think about it: as mentioned above, from investor side -- safety for a slight cost. The other way is from the country side -- if you want people and companies to stop saving and to start spending to drive growth, make the savings rate as unappetizing as possible. A negative rate tends to do that...

I did take the ED trade on 1/5, so it has been very good to me, but as trackstar mentioned about the vol -- it has moved so violently that my stop level is so far away as to look ludicrous! I fear much of this gain will be transitory; we shall see!