GBP Swaps: Green shoots of Spring batter gilts

Green shoots of Spring batter gilts

A sharp drop in Public Sector Net Borrowing figures offered a much rosier view of the public finances than expected for this crucial tax payment month of January, suggesting Spring is underway in the UK economy and sending strategists scrambling to tap big numbers into their pocket calculators.

One eye-catching response to today’s data came from Citi, which cut its 2023/24 gilt remit forecast by £49bn to £246bn, although even that is still a 50% increase on scheduled 2022/23 gilt issuance prior to QT supply, which may explain why the impact of today’s data was purely bearish for gilts.

By the end of the day the 10 gilt yield had risen 16bps to its highest levels since the first couple of days of this year as the curve bear-flattened. The combination of a better government balance sheet and really very strong PMIs (not only are Services and Composite PMIs not well below 50 as forecast but they came in at 53.3 and 53.0 today while even Manufacturing, which was expected to be languishing at 47.5 came in close to the magic 50 threshold, at 49.2) were the undisputed drivers of the market today.

With today’s data, the front end of the GBP fixed income market has lost the dizzy optimism that followed the recent MPC meeting and subsequent fillips from Huw Pill and is back to firmly pricing in 25-50bps of remaining hikes this cycle.

Although that doesn’t mean that reluctant bears amongst the trading community believe it, but while it’s fair to say the market will remain heavily data-dependent for the time being, volumes in gilt futures that topped 300K after the close might suggest conviction selling, although they are being bumped up by futures roll volumes.

In supply today the DMO sale of £3.5bn of Jan 2029 gilts garnered a respectable 2.2 times bid/cover but that couldn’t save it from participation in the across-the-board gilt sell-off that saw it close at 3.66%% having priced at 3.597%.

Today’s combined data barrage fired the longer end of the SONIA futures curve 20 ticks lower, 10y gilt yields closed +16bps at 3.63%, 2s/10s and 5s/10s closed 3bps flatter, while 10s/30s flattened 4bps. Swap spreads offered as muted response, with 2y and 5y just 1bp lower each at 42vps and 39.2bps respectively, 10y was ++1.5bps at -14.5bps and 30y was +2.7bps at -46.6bps.

Linker real yields rallied as much as 20bps in the 5y sector while in RPI swaps, the 5y fell 5bps to 3.85%, 10y was little changed at 3.75% and 30y was +3bps at 3.39% at the close of play.

BNPP: Subdued gilt roll looming?

After some lively gilt future rolls of late, strategists at BNPP say they expect the Mar-Jun roll to be a bit duller, sighting positioning. BNPP says that “Several variables are important when considering the March-June 2023 Long Gilt futures roll, in our view. These include high levels of optionality, especially for the front month, and a longer maturity cheapest-to-deliver for the June contract, making the yield curve dynamics key to valuation.”

BNPP says that it “derived estimates for the basket optionalities in both the contracts. Based on these estimates, and the current yield and curve levels, we think the fair value of the roll is around 0.95.”

However, it notes that “the roll is not merely a reflection of carry between March and June, but of both outright and curve exposure, where the spread between the front CTD (4h34) and the back CTD (4q36) is a factor in the fair value assessment. There is also a differential in duration due to the longer maturity into the June contract. For the March contract the UKT 4h34 is close to the CTD boundary with UKT 0f35. If this switch occurs, the move actually flips the duration impact between front and back contract as 0f35 has a longer risk factor than 4q34. Lastly, the current future cycle has seen the lowest open interest for many years. Even on a risk-adjusted basis open interest is low.”

“Market dynamics and the inherent optionality for the March contract are likely behind (that) low level of open interest, even when adjusted by duration. While the traditional early roll forward of futures longs is likely to be apparent in the coming weeks, we are cautious of a significant early widening in the roll. Our assessment of the individual basket optionalities suggests that the front contracts are already a little rich, while the back contracts are slightly cheap. Overall, we see the roll activity to be subdued.”

New issues: CPPIB, Yorkshire Water

• CPPIB Capital today priced a £750m, 3y bond at gilts +97bps via BofA, NatWest, RBC and TorDom.

   

• Yorkshire Water has priced £500m of bonds split evenly between a long 7y at gilts +163bps and a long 12y at gilts +170bps via Barclays, Lloyds and RBC.