Supply fails to distract from main events
With all eyes and ears focussed on CPI data tomorrow (the Bloomberg survey median is +7.3% versus previous +7.7%, while the swap market was 7.2071% on Friday for NSA CPI) and on the FOMC outcome on Wednesday (forecast 50bps hike to 4.5%) and given a lack of market moving headlines so far today, this would have been an ideal Monday for a national holiday.
Instead, markets have to keep ticking over ahead of this year-end central bank blockbuster of a week, and so far today USTs have chosen to rally slightly despite the main event being supply, with $40bn of 3y and $32bn of 10y USTs to be sold today.
This prospect clearly hasn’t daunted the UST market which, in the absence of any other drivers appears to have been buoyed by Treasury Secretary Yellen’s comments in an interview yesterday, in which she predicted inflation will be lower in a year’s time than it is now, describing the fight against rising prices as “critically important.”
Beyond Yellen, and despite terrible warfare still being waged in key frontlines in Ukraine, there is really nothing market-moving to seize onto so far today. Instead the focus is firmly on the immediate future. Citigroup (below) takes a look at what a lower-than-forecast CPI outcome might mean for rates.
Strategists at BNPP though look through the other end of the telescope, contending that “given the amount of work the Fed has done in setting up a downshift in the pace of hikes—and de-emphasizing pace relative to level--we do not think an upside surprise would elicit a 75bp move. But at the margin, it could shift some officials to a terminal rate of 5.25% versus 5.0%. It certainly would reinforce Powell's message reiterating the importance of the duration of time spent at a higher terminal rate.”
Away from the Fed focus, investment grade new issuance in the USD market is unsurprisingly non-existent so far, while equity futures indices in the US are roughly +0.3% while stock markets Europe are 0.5% lower. In fixed income Bund and gilt markets are both rallying roughly in line with USTs, in a bull-flattening formation. Bitcoin is down 1% after Reuters reported that DoJ is split over whether to charge Binance.
As for those USTs, they are currently -1.5bps in 2y, -3.7bps at 3.54% in 10y and -4.7bps in 30y. And in swap spreads, the curve is reflecting the move in USTs by steepening, with the 2y spread -1.25bps at 2.75bps, 5y is +0.25 at -23.50bps, 10y is +0.25bps at -29.75bps and the 30y is +1.25bp at -62.25bps.
Citi: CPI undershoot could drag terminal rate below 5%
Strategists are understandably fixated on the two key events of what is hoped will prove the last serious week of the year. Those at Citi this morning took a look at the possible impact of an undershoot by CPI, and at what the Fed says the next day. Citi says that a “weaker than expected CPI would nudge the pricing from the next FOMC meeting in Feb, which is currently at 35bp, by a few bp and move the terminal rate pricing below 4.9%. It also makes FOMC the following day more benign.”
“For the Feb meeting, the Fed will have the Dec CPI released in Jan (market pricing -0.27% nsa headline) but not the Jan CPI, which is higher than Dec (market pricing +0.34% for Jan). We can’t read too much into these monthly market projections however, as the deceleration in rate hikes is already in forward guidance. The bigger question for the front end, especially for terminal rate pricing, will be the trend into the second quarter.”
Whether what is priced in now though, will accurately predict what will happen next year, is hard to say, acknowledges Citi. “ While forward looking indicators point towards softening into 2023 (PMIs for example), there is generally less confidence overall about market pricing vs. what to actually expect for the next 12 months, given the experience this year when CPI ended up realizing more than what the market was pricing.”
And looking more closely at that FOMC decision, Citi says that the FOMC "should be a re-iteration of the boilerplate hawkish narrative. The dots are expected to move higher, as has been widely flagged by various FOMC members, including Powell, for 2023. Given the sharp rally in recent days, especially with the inversion in the OIS curve, we suspect that with thin trading into year end, the 2y is vulnerable to a selloff.”
Callables and Formosas
- National Bank of Canada sold a $50m 15y NC6m zero coupon callable Formosa. The EMTN matures Dec 2037, is callable annually from Jun 2023 and has an estimated IRR of 5.57%. Lead is KGI and announced Dec 12.