Inflation traders in the U.S. are honing energy trading skills, on the back of fuel-price induced volatility in the front end of the inflation market. Consumer price index inflation has been buffeted by rising oil prices in the U.S., whereas in Europe, because much of the price at the gas pump is tax, increases feed through less directly to inflation figures. One strategist said September's U.S. CPI inflation was 1.2%, of which 1% was attributed to energy prices.
The U.S. inflation market is dominated by receivers of inflation and this makes shops extra sensitive to inflation volatility, as their books are one-sided. In Europe, traders can use liquid inflation futures to hedge, but in the U.S., CPI futures have struggled to gain liquidity.
One trader in New York said he was starting to learn how to trade energy in order to hedge the firm's inflation book. A U.S. inflation trader at a U.K. firm said he now has authorization to trade certain energy-linked securities, such as gasoline and energy futures. But he noted his firm is looking at a hedge that's broadly energy rather than asset-specific, and may look into wider energy indices as a hedge.
Gasoline prices are already a factor in inflation derivative models, said one strategist. But when there are sharp moves in inflation from month to month, linked to commodities and energy, it makes sense to look at hedges, he added. Alan James, inflation-linked strategist at Barclays Capital in London, declined comment on the firm's inflation trading strategy, but noted the correlation between inflation, energy and commodities is also being driven by the rising popularity of commodity-linked investment products. Because dealers collectively are selling commodities and energy on to investors, the Street is short and some players are choosing to hedge with inflation rather than directly with the commodity and energy components in the note.