USD Swaps: Data gives Fed cover; USTs bull-steepen; Fin-Conditions and the Fed

Chart line 30 Jan 2023
Today’s softer data gave the Fed cover to reduce the pace of hikes, thus bull-steepening USTs. DB looks at financial conditions and the Fed.

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  • Data gives Fed cover; USTs bull-steepen; Fin-Conditions and the Fed

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    Data gives Fed cover; USTs bull-steepen; Fin-Conditions and the Fed

    Some confirmation this morning that disinflation trends are indeed in place (ECI +1%, versus +1.1% Bloomberg consensus, +1.2% prior) got the risk-on balls rolling this morning.  And the subsequent softer-than-expected readings on both Chicago PMI (44.3 versus 45 consensus) and consumer confidence (107.1 versus 109 consensus) were just the icing on the cake, leaving all the major domestic indices in the black on the eve of the next FOMC decision (Dow +1.09%, S&P +1.46%, Nasdaq +1.67%).


    Similarly, with the data giving the Fed some cover to slack off a bit on hikes/hawkish rhetoric, Treasuries also got a modest-bull steepening boost today.  Indeed, heading into the final hour of trade, the benchmark 10y note yield is down 1.9ps at 3.518% while the 2s10s spread is 2bps wider at -68.35bps.  Shorter in, SOFR futures are a solid 6.5 to 9.5 tick firmer in the reds and greens as hawkish bets get pared back a bit today. 


    Meanwhile, swap spreads are closing out mostly tighter with the spread curve flattening against the steepening in underlying rates amid below-average SOFR volumes overall.   In backdrop, IG issuance wasn’t much of a factor today as only PEMEX and CABEI waddled into the pool with $2bn and $1.25bps deals, respectively.


    Ahead, all eyes will be on tomorrow afternoon’s FOMC decision and the Powell presser that follows.  And while almost all bets have been placed on a 25bps hike (…as opposed to 50bps), how Powell decides to pave the concrete afterwards will be the true wildcard.  With this in mind, one source felt that “Powell will likely frame a hawkish hike,” explaining that “financial conditions are too loose for the Fed and officials won’t want to feed any further loosening” with an eye on equity market valuations in particular – especially over the past few weeks.


    Indeed, in the context of monetary policy decisions, strategists at Deutsche Bank agree that “equities are often taken as a barometer that reflects the wealth effect, financial conditions, risk appetite, growth, and general well being of the economy.”  However, while some may view equity valuations rich – or financial conditions loose – Deutsche Bank sees a different picture emerging when accounting for inflation:


      ”… Since the beginning of 2022, equities have followed a downward trajectory with major indices declining 17-30% from their highs. However, this drawdown took place after almost two years of unprecedented bull market when the S&P and NASDAQ practically doubled up in value during that time. In nominal terms, the last year’s selloff presents a relatively small correction. However, when accounting for inflation, different conclusions emerge.


      “…(Looking at) the last three years of history of the S&P and NASDAQ together, with the level (as opposed to YoY changes) of CPI index, all indexed to their Jan-2020 levels, (we find that) as inflation rose slowly in the first two years of the decade, the performance of equities massively outpaced its rise. This was the combined effect of fiscal and monetary stimulus in response to the COVID pandemic. The subsequent drawdown…, which occurred in a rapidly rising inflation environment brought the three series together. When accounting for inflation, stocks are now where they were pre-COVID – stimulus-driven ‘real’ returns of the first two years were erased in 2022 by rate hikes and inflation.


      “…In normal tightening cycles, equities usually ‘outperform’ inflation – as inflation rises, equities return outpace it. What is unusual for the present cycle is the negative correlation between the two – as inflation pushed higher, equities continued to decline. This is what made the “real” decline of equities so dramatic in the last year.  Such a pattern (not seen since the late 1970s) underscores the new mode of operation of the Fed. In the past, during Greenspan’s era, the Fed used to come in and help markets heal from its own excesses. In contrast, the current cycle is driven by a necessity to remedy the combined effect of the exogenous shock of COVID and excessive policy response necessary at the time.”


    Currently, SOFR swaps – 2s 2.75bps (+0.25bps), 3s -11.875bps (-0.125bps), 5s -21.625bps (-0.25bps), 7s -30.875bps (-0.75bps), 10s -30.25bps (-0.625bps), 20s -59.5bps (-1.625bps), 30s -67.25bps (-1.5bps).



     New issues

    • Korea Housing Finance (Aa2/AA) is preparing USD 3y and/or 5y Social bonds after meeting investors from Feb 7. Leads are Citi, CA, HSBC, JPM, SocGen and StanChart.


    • PEMEX launched a $2bn 10y benchmark via Barclays, JPM and MIZ.  B1/BBB.   Launched at 10.375%.


    • The Central American Bank for Economic Integration (CABEI) priced a $1.25bn 3y Social Bond at swaps +120bps BNPP, BofA, Credit Agricole and HSBC (B&D).