USD Vol: Vols cheapen; Most of the move prior to FOMC

 Vols cheapen; Most of the move prior to FOMC

The Fed hiked 50bps but the SEPs were hawkish and more recessionary. In the Q&A, Powell highlighted the need to see substantially more evidence of inflation easing and did not see any rate cuts until there was confidence of inflation moving toward 2%.

Treasuries sold off after the FOMC statement, with yields rising to 1-6bps higher, led by the front end, but after the Q&A, yields are back down toward unchanged, with yields +/- 2bps. Implieds, led by gamma, had already cratered into the FOMC, with vols seeing modest moves post FOMC of around +/- 0.5 normal.

3m expiries now off anywhere from around 6.75 to 8.5 normals and 1y expiries down roughly 4 to 6.5 normals, led by the left side. Vega is also off a sizeable 1.5 to 2.5 normals on the day.

Interbank activity post FOMC included 3y5y at 745bps and 1y1y at 106bps. Prior to the FOMC trades included the bellwether 1y1y at 106bps, 106.5bps and 105.5bps. Also in the ULC, 1m2y traded at 63bps, and 2y1y at 153.5bps and 153bps. Further to the right, 1m5y traded at 142.5bps, 1y10y at 813bps, 6n10y at 595bps, then 592bps and then 585bps, according to the SDR.

The lower left saw decent activity today. For example, 4y1y dealt at 194bps, 5y1y traded at 204bps and 10y1y dealt at 225bps and 224bps. Also 7y1y traded at 216bps. In switches, 1y5y versus 2y5y traded at 485bps and 665bps, respectively, and 2y10y versus 3y5y traded at 1105bps and 760bps, respectively, according to the SDR.

2y and 30y skew divergence extreme – Citigroup  

Analysts at Citigroup highlight skews on 2y and 30y rates “continue to move in opposite directions with the divergence reaching a new extreme.”

“Along with the rate rally and forward curve flattening over the past month, skews on front-end rates have continued to decline meaningfully on the back of the Fed dovish pivot narrative” as left-side skews “have flipped with receiver skews now trading above payer skew” as it has noted previously.

“To our surprise, the implied inverse rate/vol directionality has been realizing recently with upper-left vol increasing/decreasing as rates rallied/sold-off” and “while the inverse upper-left rate/vol directionality would make sense ahead of an upcoming easing cycle, we are still far off from such a scenario,” Citigroup argues.

Hence, Citigroup still believes that the skew market “is premature in pricing for the Fed dovish pivot and continue to favor fading the relative richness of the receiver skew on front-end rates.”

In contrast, Citigroup finds that skews on long-end rates “have been moving in the opposite direction and are approaching their multi-year highs” and “one possible cause for this divergence between front-end and long-end skews might be the growing investor interest in conditional bull steepeners” but that in itself is “likely not enough of a reason to explain the extent of the skew divergence given that it is essentially at the most extreme since the start of the swaption skew market.”

Citigroup believes that the richness of long-end payer skew “is also partly due to worries of long-end yields potentially becoming de-anchored and repricing to a meaningfully higher level over the medium term” – though the bank does not share this view.

Citigroup remains “modestly bearish” on payer skews on USD 30y rate and combined with its modestly bearish view on ATM vol on long-end rates, it sees one way to fade the richness of right-side payer skew would be through a 1x2 payer spread with delta hedging.

New structured notes

For a complete review of USD MTN activity over the past week, please see USD MTNs.

• ING Bank is working on a $10m fixed callable maturing Dec 2032 NC3 that pays 5.5%. EMTN.

   

• Bank of Montreal is working on a self-led USD extendible with initial maturity Dec 2023 and then extendible to Dec 2025 that pays 5.25% to Dec 2023, then pays 5.5% and 5.75%, stepping up annually. Domestic MTN.

   

• Bank of Montreal is working on a self-led USD extendible with initial maturity Dec 2023 and then extendible to Dec 2025 that pays 5.5% to Dec 2023, then pays 5.75% and 6%, stepping up annually. Domestic MTN.

   

• National Bank of Canada is working on a $10m fixed callable via Daiwa maturing Dec 2032 NC3 that pays 5.75%. Putable Jun 2023. EMTN.

   

• Bank of Montreal is working on a self-led CAD extendible with initial maturity Dec 2023 and then extendible to Dec 2027 that pays 5.5%. Canadian.

   

• Bank of Montreal is working on a self-led CAD extendible with initial maturity Dec 2023 and then extendible to Dec 2029 that pays 5.5%. Canadian.

   

• Bank of Montreal is working on a self-led CAD extendible with initial maturity Dec 2023 and then extendible to Dec 2025 that pays 5.3%. Canadian.

   

• Bank of Montreal is working on a self-led CAD extendible with initial maturity Dec 2023 and then extendible to Dec 2025 that pays 5.1%. Canadian.

   

• Bank of Montreal is working on a self-led CAD extendible with initial maturity Dec 2023 and then extendible to Dec 2027 that pays 5.45%. Canadian.