I just closed my long position in the federal funds futures contract for February 2009 at 98.24. The contract is spiking higher tonight as it looks increasingly likely that a bankruptcy filing is forthcoming from Lehman Brothers. My average cost was 97.17 and in just 11 weeks I have realized a profit of around $4500 per contract compared with an initial margin requirement of $1350 per contract.

The market is starting to realize that the banking system is facing a meltdown with interest rate spreads sharply widening. As such, the Fed cannot increase its key lending rate. And with the recent collapse in commodity prices and a stronger dollar, further rate cuts look quite likely. I believe the Fed will cut rates, but I don’t know if it will cut rates by more than 25 basis points over the next few months. Therefore, I decided to take profits in my fed funds futures contract and look for other opportunities.