Despite Near Certainty Of June Rate-Hike, Millions Of Eurodollar ‘Bets’ Are Set To Expire Worthless

Via Long Convexity blog,

As a trader one of the most frustrating things is to have the correct view on the direction of the market, while not being able to monetize that view because you have the wrong structure on.

Due to the lack of a deep & liquid options market in fed fund futures, many market participants – particularly macro players – instead leverage the highly liquid eurodollar options market to express views on the direction of short-term interest rates.

However, one wrinkle traders weren’t factoring into their analysis was the collapse of LIBOR-OIS spreads (Fig. 1) due to recent changes in funding markets, primarily attributed to money market reform. 

Fig. 1-LIBOR-OIS Spread via Bloomberg

In short, the rise in LIBOR hasn’t kept up with expectations for more rate increases from the Federal Reserve causing this spread to tighten dramatically.

With the front month eurodollar contract (EDM7) trading around 98.74, a report (Fig. 2) of options open interest from software QuikStrike shows…

Fig. 2 -Option Open Interest on EDM7 via QuikStrike

Millions of put options are likely to expire worthless, much to the chagrin of many traders.