USD Swaps: BoJ contagion; Long spreads meltdown; TGA decline – debt limit optics

Chart lines Oct 2022
BoJ’s surprise move has put USTs in bear steepening mode and long end spreads are in meltdown mode. BofA looks at the TGA decline.

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  • BoJ contagion; Long spreads meltdown; TGA decline – debt limit optics  



    BoJ contagion; Long spreads meltdown; TGA decline – debt limit optics

    The global central bank contagion effect remains in full swing with the latest surprise move out of the BoJ putting just about all the major government bond markets on the backfoot today.  To be sure, the overnight move from the typically perennially dovish BoJ to widen its 10y JGB YCC trading band to +/-50bps from +/-25bps (see Total Derivatives) sent 10y JGB yields spiking up by 15bps to 40bps higher in the largest daily move since August 2003. 


    And the shock and awe of the BoJ’s move has reverberated from the JGB market to the EGB and UST markets today where the latter currently sees yields 2-10bps higher in a bear steepening move. The benchmark 10y note yield is last up 9.6bps at 3.679% while the 2s10s spread is 7.5bps wider at -60bps.  Meanwhile, in the Eurodollar trading pits, red and greens are 4.5 to 8 ticks softer while the underperforming Jun29 contract is currently off 16 ticks. 


    In swaps, longer tenor spreads are well offered against the bear steepening in underlying rates as the 20y and 30y spreads have melted down around 3bps in illiquid conditions. In the backdrop, IG issuance is shuttered for the rets of the year with bond sales poised to begin again on January 3rd.  Meanwhile, in risky assets, U.S. equities are doing a whole lot of nothing thus far today (Dow +0.02%, S&P +0.28%, Nasdaq -0.40%).


    In other quarters of the financial landscape, the US Treasury's cash balance (TGA) has fallen substantially in recent weeks with the TGA in December averaging $400bn, well below UST's end-2022 $700bn guidance.  And in the view of strategists at BofA, “the TGA decline is likely driven by the US Treasury managing optics ahead of the debt limit (DL).”  Below BofA details TGA drop drivers, bills / funding impact, and the outlook for TGA and funding:


      ”…TGA drop: debt limit optics  - The TGA drop is likely driven by DL optics. UST is very close to hitting the DL; the daily Treasury statement suggests only $133bn of headroom as of December 15…The Treasury appears to be guiding TGA lower so that it can defer DL timing. The TGA drop suggests that UST is already acting as though it is bound by the DL; it just does not want to admit it publicly. Lower TGA = less debt outstanding and a longer period before DL binds…UST's motivation in delaying public DL acknowledgement is unclear. UST may be delaying the DL hit to avoid a bad headline or administration news. Delaying the DL bind date only defers the optics; it does not change the X-date (BofA base case = Q3 2023)…Lower TGA also means less bill supply and easier funding. Bill cuts have totaled $93bn since November 25 to move TGA lower. These bill cuts have richened 3m bills to OIS by 11bps, kept SOFR near ON RRP (excluding settlements), and driven higher ON RRP use.


      “…UST and TGA guidance: not accurate - UST TGA guidance has not been accurate. UST provides the market with 2 months ahead TGA guidance every refunding. UST guidance from the November 2nd refunding suggested that the cash balance would end 2022 at $700bn, $252bn above Friday's level. From mid- to late 2020, UST forecast TGA of $800bn, while it averaged $1.75trn. Since end-2019, the UST 2 months ahead TGA guidance miss = 1 standard deviation of $500b+. UST guidance has not been accurate, which is surprising given the short forecast horizon and UST control of TGA….UST TGA forecasts are very relevant to market participants when forecasting supply. UST preaches the benefits of public transparency. We agree. UST TGA guidance should also be transparent. This is true even when facing politically uncomfortable DL limits.


      “…UST TGA policy: 5D of expected outflow w/ $150bn minimum - UST's TGA policy = cash on hand equal to five days of expected outflow, with a minimum of $150bn. We currently estimate average 5-day outflow of just below $400bn, which UST recently breached. If UST wanted to keep TGA above $400bn, it would hit the DL in February. If TGA falls to $150bn, then the TGA would likely bind in March. If TGA falls to historical levels on DL bind date of near $200bn, it would occur in February / March…We think TGA will fall to ~$200bn before DL binds in February/March 2023.”


    Currently, SOFR swaps – 2s 2.5bps (+0.5bps), 3s -14.5bps (+0.5bps), 5s -24.625bps (-1bps), 7s -35.75bps (-2bps), 10s -33.375bps (-1.75bps), 20s -67bps (-3.75bps), 30s -72.5bps (-3bps).