USD Vol: Implied soften as rates retrace lower; ULC underperforms

Implied soften as rates retrace lower; ULC underperforms

On the heels of yesterday’s FOMC minutes that signaled that the Fed would keep its foot on the rate hike pedal, signs today that U.S. economy is slowing down (i.e. GDP 2.7% versus 2.9% Bloomberg consensus, 2.9% prior) was enough to keep UST yields on a downward trajectory after YTD highs in yields were hit in the early trade today.

Indeed, Treasury yields are another 0.25-3.7bps lower in the early afternoon trade today as the bull-flattening that commenced during yesterday’s trade builds a little more momentum this session.  The benchmark 10y note yield is last 3.3bps lower at 3.883% after topping out up at 3.9742% this morning.  Meanwhile, on the curve, the 5s30s spread is 2.2bps narrower (5y roll-adjusted) at -23.9bps. 

Against this backdrop, implieds have nudged a little lower today in a largely directional move as rates work their way back into the range.  Gamma is up to 3.5 normals softer with then ULC leading today’s deline while gamma on the right said has lagged a bit with only up to 1.75 normals declines.  Meanwhile, vega is roughly 0.5 to 1 normal lower.

Interbank activity, 1m5y traded at 133.5bps, 1m10y crossed hands at 218.5bps, 3m2y dealt at 96bps, and 3m10y printed  at 279bps then down at 375.5bps.  For more USD option trades on the SDR see here and for volumes please see here.  Note that the Total Derivatives SDR now shows broker/platform information for each trade, where available.

Citigroup: Buy SFR Blues and pay maturity-matched forward 1y swap

Strategists at Citigroup find that “in recent weeks that even after the recent bounce, implied rates vol still appear to be low relative to other market instruments with embedded vol exposure, such as the MBS basis and the long-dated forward curves.”  As such, the bank is “neutral on vega in the near-term”  but it remains “structurally bearish over the course of the year” and it favors positive carry trades.

However, instead of selling rates options right now, Citigroup believes that “investors who are looking for positive carry can find better risk/reward in alternative expressions of short vol proxy, such as selling convexity adjustments on long-end SOFR futures.”  Specifically, the bank favors buying SFR Blues and pay maturity-matched forward 1y swap which it expounds on below:

”…Currently the Golds have the highest convexity adjustments outright and relative to our model levels, with the Blues being the next. The analysis is based on the CME FRA/swap curve, which we favor over LCH-cleared swaps because clearing on CME is more capital-efficient due to margin netting. We also backed out the implied vols corresponding to the convexity adjustments, which are slightly higher than the realized vols. In contrast, the corresponding implied cap/floor vols are currently slightly below the realized vols.

 

“…Even though the Golds convexity adjustments appear to be the most overvalued, it also looks to be more persistent. Notice that the Blues convexity adjustments have already started to normalize, and we see room for it to go further in the near term. Thus, we recommend selling the convexity adjustments by buying 1000 of the SFRH6-Z6 Blue pack and paying $1.17bn CME cleared forward starting (3/18/2026-3/16/2027) swap at 12.7bp in rate spread (pricing as of 2pm 2/17/2023, ATMF=3.14%, $100K DV01). The trade has 1.5bps running of positive carry over 3 months. We are targeting 4bps of tightening in the convexity adjustment and would stop out on 2.5bps of widening. The primary risk to the trade is a further build-up of short duration positions that are more concentrated in EDs than in OTC derivatives.” 

New structured notes

For the latest weekly wrap of USD structured notes, please see USD MTNs.

• Asian Development Bank is working on a $60m self-led fixed callable maturing Mar 2033 NC2 that pays 5.5%.  EMTN.

                                                                                         

• Asian Development Bank is working on a $60m fixed callable via JP Morgan maturing Mar 2033 NC2 that pays 5.5%.  EMTN.

   

• Asian Development Bank is working on a $50m fixed callable via Morgan Stanley maturing Mar 2033 NC1 that pays 5.65%.  EMTN.

   

• Asian Development Bank is working on a $50m fixed callable via BNP Paribas maturing Mar 2038 NC2 that pays 5.22%.  EMTN.

   

• Morgan Stanley is working on a self-led fixed callable maturing Sept 2026 NC2 that pays 4.7%.  Domestic MTN. 

   

• Morgan Stanley is working on a self-led fixed callable maturing Mar 2027 NC2 that pays 4.75%.  Domestic MTN. 

   

• Morgan Stanley is working on a self-led fixed callable maturing Mar 2030 NC3 that pays 5%.  Domestic MTN. 

   

• Morgan Stanley is working on a self-led fixed callable maturing Mar 2038 NC3 that pays 5.3%.  Domestic MTN. 

   

• JP Morgan is working on a $10m self-led fixed callable maturing Mar 2033 NC2 that pays 5.5.58%.  EMTN. 

   

• JP Morgan is working on a $10m self-led fixed callable maturing Mar 2033 NC2 that pays 5.58%.  EMTN. 

   

• JP Morgan is working on a $20m self-led fixed callable maturing Mar 2028 NC2 that pays 5.45%.  EMTN. 

   

• Bank of America is working on a self-led step up callable maturing Mar 2030 NC1 that pays 5.25% to 2025, 6% to 2028 then 7% thereafter.  Domestic MTN.

   

• Barclays is working on a self-led fixed callable maturing Mar 2026 NC1 that pays 4.9%. EMTN.

   

• Barclays is working on a self-led fixed callable maturing Mar 2024 NC6m that pays 4.8%. EMTN.

   

• Credit Agricole is working on a self-led fixed callable maturing Mar 2033 NC3 that pays 5.58%. EMTN.

   

• Credit Agricole sold a $10m 10y NC1 zero-coupon callable (non-Formosa).  The EMTN matures Feb 2033, is callable annually from Feb 2024 and has an estimated IRR of 6.47%.  Announced Feb 22.

   

• Credit Agricole is working on a self-led fixed callable maturing Mar 2030 NC3 that pays 5.45%. EMTN.

   

• Bank of Montreal is working on a self-led step up callable maturing Feb 2025 NC1.5 that pays 5.6% to 2024 then 5.75% thereafter. EMTN.