On the Front End
Exploring what SOFR markets are pricing
Hello everyone, and welcome back to Celeritas Capital. Thank you for checking out this article on the front end of the SOFR curve. In this piece we will be reviewing recent moves in the front end and how it affects the SOFR Trade I pitched which you can linked below.
Reading the Greens: Convexity in Long SR3Z28
Hello everyone welcome back to Celeritas Capital today I am proposing a high conviction trade on SOFR futures. Specifically, SR3Z2028. This post is best read on Substack using the Website or App which I prefer personally. Regardless let’s dive in you will find the sections of this post below so you can save time and read what is important to you.
What is the front end pricing?
As I write this on Easter Sunday 5:40 PM EST, SR3Z26 is pricing zero BPS of cuts or hikes for the rest of this year. (Also a Happy Easter all who celebrate!) SR327 is now pricing just under one cut by the end of 2027. SR3Z28 is pricing in just 11 BPS of cuts. (Figure 1) I believe the market is heavily mispricing the effect of the war of US rates.
My evidence is as follows True Inflation is down well below 2%. This gives the FED some wiggle room with their second mandate of maxing employment.
Figure 3 shows the 1yr inflation swap at 3.25% vs the 1y1y forward at 2.48% is a ~77bp inversion. (Figure 3) The market is pricing a near-term inflation impulse that it expects to fade. This is likely from the higher near term crude prices. Importantly if you look at the December WTI Crude Future at the time of writing it trades up 14% since the start of the war but is still sitting a rather modest $72 a barrel. Assuming the energy market is correct in it’s pricing that this entire war wraps up in the next few weeks our model see’s US CPI dropping by 0.75% in the next 12 months. (Figure 4)
I would be fading any rate hikes getting priced into SR3 futures, especially SR326 which means I am a buyer at the 96.100 level. In my view 2 cuts by the end of 2027 is extremely likely. But that is all I have for now, sorry for the short post but I just recently started a job so most of my time has been focused on that. The good news is that this job allows me to finally save up the money to start my own book! More information on that coming in the next couple of months. Thank you for reading and supporting Celeritas Capital!