Double Blind

Putting some money where my mouth is, I’ve once again opened a position on where short term interest rates are headed. I have used the May 2011 Federal Funds futures as my proxy – there are plenty of reasons for this, the two major ones being:

1. Quantitative easing will end in October – this is effectively an increase of interest rates from negative levels to zero.
2. Central banks are likely to raise rates to an above-zero level in the middle of 2010 to avoid potential inflation down the pipe.

This is a very small position, and the bet is at 2.2% – if rates are higher than 2.2% by May 2011, I will profit. If rates are lower than 2.2%, I will lose money.

Realistically, I expect this bet to materialize as either a small loss (exit at around 1.5%) or a larger profit (exit at around 4.5%) sometime in the first half of 2010.

I’m not buying into the “hyperinflation” scenario that we see, but I do want to protect myself against a macroeconomic shock, mainly the inability of the US government to finance its own debt. Although there still is plenty of appetite to swallow US debt like people at a Las Vegas buffet, the party will eventually end. The question is whether it ends with currency depreciation or inflation (which will lead to higher interest rates). These two options are generally mutually exclusive – in the inflationary scenario, interest rates will increase, which will put some stability on the currency value.

This entry was posted on Thursday, August 27th, 2009 and is filed under Finance. You can follow any responses to this entry through the RSS 2.0 feed. You can skip to the end and leave a response. Pinging is currently not allowed.