A trader works on the floor of the New York Stock Exchange (NYSE) in New York, U.S. (Photographer: Michael Nagle/Bloomberg)  

Week That Spooked Bond Markets Sent Traders Scrambling for Exits

(Bloomberg) -- Volatility in the U.S. Treasury market appears to have forced traders out of what just a week ago appeared to be surefire wagers on higher yields and a flatter curve.

Flight-to-quality as U.S. stocks slumped pulled the 10-year note’s yield from a four-year high of 3.259 percent on Tuesday to as low as 3.124 percent on Thursday. Apparently that was enough for one trader to abandon a $2.5 million wager targeting a move to 3.60 percent by December. Placed last week, the bet took a loss of close to $1 million.

Specifically, a block trade of 18,000 put options on the 10-year futures contract, expiring in January 2019, was bought for 9 ticks on Oct. 4. Thursday, an identical-sized block was sold at 5 ticks, and CME data suggest it was liquidation -- open interest in the strike declined by 17,999.

The Treasury curve also put positions to the test, as the spread between 5- and 30-year yields briefly topped its 200-day moving average on Oct. 9 for the first time in more than a year. Morgan Stanley abandoned long-held (and previously profitable) flattener calls, and a derivatives trader appears to have also thrown in the towel.

Wednesday, a pair of large block trades in 2- and 10-year Treasury futures appeared consistent with a partial unwind of a flattener initiated in August after a $13 million hit. To be sure, the remaining position may yet pan out. Flattening bets still enjoy broad sponsorship, based on the outlook for Fed rate increases and subdued growth and inflation.

In the meantime, the wound-licking can commence.

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