GBP Swaps: Front-end pounded by PCE; Buy long ASWs?

After a week of strong UK economic data, US PCE popped up with one last twist of the knife to hammer short-dated gilts. HSBC is bullish long ASWs.

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  • Front-end pounded by PCE

  • HSBC: Supply joins with demand to promote 30y ASW longs

  • New issues: Lloyds


Front-end pounded by PCE

After a week of stronger-than-expected UK economic data, concluding with a sharp bounce in consumer confidence released this morning, the gilt market was set-up as much as any other for a big reaction to today’s stronger-than-expected US PCE data. This key inflation indicator delivered its warning of higher-than-expected inflation, as many seem to have suspected based on soggy early trading across fixed income markets, and the front-end of the gilt curve reacted vigorously.


Late in the afternoon the 2y benchmark gilt yield was +14bps on the day at 4.02%, 10y was +8bps at 3.67% and 30y was +7bps at 4.05%. Swap spreads battled to track the gilt move with the 2y 0.2bps higher at 46.6bps, 5y was -0.6bps at 40.3bps, 10y was -0.6bps at -11.7bps and the 30y was last at -54.6bps, -1.6bps on the day, but spreads are still whippy in the aftermath of the US data.


Elsewhere, short sterling fell as much as 20 ticks in its 2028 contracts, from 4 ticks in the front end, with the market now pricing in fully 50bps of hike by May. In inflation curves bull-flattened with 11y RPI currently +12bps at 4.00% versus +4bps in 30y, with B/Es following a similar path.  


Volatility was exacerbated by perhaps surprisingly low volumes in GBP fixed income, typified by the gilt future which well into the afternoon had only ticked over contracts in size of 95K. Hope there, perhaps, that a thin volume sell-off led by US fundamentals could lead to a higher-volume recovery next week based on the more dovish noises coming from most MPC members who have commented in the last couple of weeks.


HSBC: Supply joins with demand to promote 30y ASW longs

A few weeks ago strategists at HSBC set out a ‘buy 30Y UKT ASW’ trade idea. While much of the previous rationale behind their idea was focused on the demand aspect (ie, the strong near-term outlook for LDI de-risking demand), HSBC says today that “we now also think the supply outlook is turning more positive.”


Despite the fact that spreads have started to richen (the 30y ASW has shifted 3bps less negative since Monday), HSBC said “we take this opportunity to reiterate our constructive view on long-end UK ASW spreads. Investors may be surprised by the timing of our bullishness since it comes shortly before the Spring Budget on 15 March when a record rise in net supply is likely to be confirmed. Many are expecting the combination of heavy gilt sales from both the DMO and BoE to weigh on long-end gilts.”


However, it continues “the supply outlook for long-dated gilts may be less daunting than is currently feared. We think the combination of a lower overall financing requirement, a larger role for T-Bills/NS&I and a bigger skew of gilt supply towards the shorter-end could all offer relief for long-end gilts. The Autumn Budget painted a bearish picture for gilt supply, with the DMO projecting gross financing needs of GBP305bn in 2023/24 (but)… lower-than-expected borrowing in 2022/23, the prospect of a downward revision to 2023/24 financing needs and the possibility of a small over-fund from NS&I (means) they may well be lower than that.”


Additionally, HSBC says it thinks that “there will be a sharper shift of the supply towards the shorter end than many expect, which could offer further relief for long-end gilts. Given the overall size of the financing requirement is so large, the DMO is likely to focus on the absolute amount of long-end and linker issuance when it plans how to raise the total. Consequently, the proportions of long-end and linker supply could fall markedly versus 2022/23, with a corresponding increase in the proportions of shorts and mediums.”


Such a move would show that the DMO recognizes that “the longevity and depth of LDI demand is waning as the pensions industry matures,” argues HSBC.


In summary, HSBC says that “while front-end gilts remain exposed to a near-term hawkish risks and increased supply, longer-dated gilts offer good long-term value at forward yields well above levels where we think long-run equilibrium rates are likely to be while ASW spreads look cheap. The supply may be largely in the price, with risk-reward asymmetrically skewed towards richer valuations.”


New issues: Lloyds

  • Lloyds Bank last night priced a £750m, 10.25y NC5.25 bond at gilts +310bps via BofA, GS, Lloyds and Santander.