French bond blowup empties London macro desks as carry trade implodes again, close to 100 European rates traders carried out while OAT yields touch 5 percent for the first time since 2002, a trade that priced French politics as a stable spread discovers otherwise

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The most lucrative seat in London's multi-manager hedge fund world — a European rates book that levered up French government bonds in the repo market to harvest carry — has just blown up for the second time, and the people sitting in it have been carried out. According to eFinancialCareers, the count of ejected European rates portfolio managers and traders has climbed from the mid-70s a few weeks ago to close to 100 people, as headhunters and bank traders keep score. "Everyone has blown up... they are all out," one senior trader at a liquidity provider put it.

The trade itself was simple enough: buy French OATs, finance them in the repo market using the same bonds as collateral, and pocket the gap between the bond's yield and the repo cost. It worked for the better part of three years, and the traders collecting seven-figure payouts were, in the words of one London bank trader, "not even real portfolio managers... just using EGBs as a carry asset." The wider version was the OAT asset-swap, in which funds such as Balyasny built positions to harvest the spread between French yields and interest-rate swaps — lucrative until the French budget blowup on October 1 flipped the trades from winners to liabilities and everyone hit the exit at once. Stop-losses triggered, steepener positions unwound, and by the next day the OAT-Bund spread hit 154 basis points, the widest since 2011.

This week the French bond risk gauge approached 160 basis points, a fresh 15-year high, and French 10-year yields touched 5 percent for the first time since July 2002. Kaspar Hense of RBC BlueBay Asset Management told Bloomberg that most typical hedge-fund strategies are in risk reduction mode. Marion Le Morhedec, fixed income CIO of Fidelity International, estimated that hedge fund activity could explain roughly half of the recent moves in the French-German spread, pointing to particularly heavy Eurex activity as supporting evidence.

What the carry traders treated as a stable spread was in fact a bet on French politicians agreeing on a budget — a bet the country's assembly has repeatedly refused to honor. The market is now pricing politics rather than monetary policy in the eurozone's second-largest sovereign borrower, and many of the portfolio managers who blew up this month had already blown up once before. Market attention, the traders say, is already drifting to Italy as the next potential domino.