USD Swaps: So Very Bad? Traders hope for storm in teacup

Herding wildebeest 10 Jun 2020
Problems at SVB saw USTs continue to rally as EGBs played catch-up. Trading was for essential tweaks only, said traders, but this may change with NFP.

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  • So Very Bad? Traders hope for storm in teacup

  • Barclays: SVB is a special case

  • New issues


    So Very Bad? Traders hope for storm in teacup

    Last night’s unsettling news of investors in niche Californian lender Silicon Valley Bank withdrawing capital at speed saw 10y USTs rally 10bps late in the US session yesterday and add another 7bps so far today (to 3.83%) as European government bond yields scuttled lower in a bid to catch up. Bund yields are currently down 12bps as an early rally is seemingly getting a second wind, while 10y gilt yields are -11bps at 3.69%. Eurozone bank stocks are down 3.5% after opening more than 5% lower, and euro CDs indices are 4bps wider for the iTraxx and and 21bps wider for the iTraxx Crossover index.


    The SVB news has awakened memories of the 2007 credit crunch and has had bank analysts working intensely to ascertain correlation risks and to determine how particular SVB’s investment strategy (which saw it forced into selling of $21bn of UST and agency bond AFS as its bond portfolio value crashed) was to SVB. One renowned canary in the coal mine, the 3m EUR/USD cross-currency basis swap has not quite pressed the panic button. After plunging from -9bps yesterday to -26bps this morning (a 2023 low), it has since recovered to -17.625bps at the time of writing. 


    Elsewhere in the traditional funding indicators, 3mL fixed 1.6bps lower and Eurodollars are 15-20bps stronger in the back whites (Jun23, the last contract before LIBOR retires and the busiest today, is unchanged) but first IMM FRA-OIS remains 2.3bps wider at 7.3bps and the second IMM spread is out 10bps to 25.9bps, and still rising.  


    Michael Burry, the investor made famous in The Big Short, though has already described SVB as ‘the new Enron,’ warning of a domino effect in the bank sector. In London today though, traders (who obviously do work for banks) were less downbeat.


    One USD swapper at an active market participant said “it’s a storm in a teacup, by Monday it will be all forgotten about. As far as I can tell so far the whole SVB story is super localised and it’s very, very hard to see contagion spreading out from it.”


    Fingers crossed… One effect of the story has been to make the rallying UST market even more quiet than it normally would be ahead of the upcoming February NFP data. The above swapper said that “the market is really passive despite decent moves…. The vast majority of what is happening is people doing what they absolutely need to do, and no more. And much of that was done into the New York close last night.”


    For its part, SVB said yesterday it had access to $180bn of liquidity including $15bn in cash, $73bn in off-balance sheet sweep and repo funds, $65bn in borrowing capacity (primarily FHLB and repo) and $25bn in AFS. It plans to reinvest the proceeds from the AFS sale into more asset-sensitive, short-term AFS securities.  It intends to buy USTs hedged with receive-floating swaps.  It also plans to increase term borrowings from $15bn to $30bn and hedge these borrowings to mitigate higher funding costs in the future.  Let's hope this is enough as depositors flee for the exits.


    Ahead, the non-farm payrolls number is not going to be overlooked, even amid problems at America’s 16th largest bank (as SVB apparently is, or was yesterday anyway).


    The payrolls number (forecast +225K) in about an hour matters as much as ever, said the above swapper. “This afternoon could be very busy based on the pricing implied by the vol market which suggests more than 14bps of movement in 5y, though some of that we’ve already seen (5y UST yields are -6bps at 4.13%).” Forecasts amongst leading banks range from +150K from RBC to +300K from Deutsche.


    “So it could be a very busy afternoon, in contrast to the morning,” he concluded, noting that active trading in spreads and on the curve has been notable by its absence. Currently 2s/10s USTs is +3bps at -93bps, while 10s/30s is +4bps at -2bps.  Swap spreads are heading south, apart from the 2y which is +1bp at 5.5bps. The 5y is -0.375bps at -21.75bps, 10y is -0.75bps at -30.75bps and the 30y is -1.25bps at -72.375bps. 


    Barclays: SVB is a special case

    Bank analysts at Barclays this morning largely downplayed the chances of serious contagion risk arising from the problems at SVB, saying the bank “is a special case.”


    In summary Barclays said that “The proximate issue with SIVB is deposit concentration. It sources a large portion of its deposits from its relationships with VC funds. Those deposits are declining faster than expected as VC-backed companies burn cash. We believe SIVB’s deposit concentration makes it an outlier and therefore it is too broad to extrapolate the funding stress it is experiencing to other banks.”


    It adds that:

    • “In the current environment, deposit pressure is greatest for smaller banks, including regionals. GSIBs have more diverse funding sources and therefore are less vulnerable to this risk. Based on where we are in the hiking cycle, net interest margins (NIM) for many regional banks will likely decline. However, these risks look manageable within the context of their liquidity and capital.”


    • “The circumstances regarding SIVB have raised awareness of the potential for deposit betas to increase and for margins to contract but have not exacerbated this risk, in our view. Most regional banks are much better suited to manage deposit pressure than SIVB because their deposit footprints are more diverse.”


    • ”A more concerning risk scenario for regionals would be persistent and intense deposit pressure, coupled with deteriorating asset quality. The overlap of these factors could compound risks for some banks. One plausible scenario is that higher-for-longer interest rates keep liability costs high, eroding margins, while they also place further pressure on commercial real estate (CRE) valuations. Banks are the largest holders of CRE debt… The banks with the highest portion of loans in CML are MTB, CFG, and KEY, among institutions with at least $100bn of total assets. In addition, regionals with larger exposures to higher-risk property types like office would likely be at more risk in that scenario. Banks that raise deposits online tend to be more sensitive to interest rates, and some of them also make riskier loans. This makes them more vulnerable to a potential overlapping of asset and liability pressures" 


      New issues:

      • Mexico-based international building products company Cemex last night priced a $1bn Perpetual NC5.25y, 9.125% bond via BBVA, BNPP, BofA, IMI and JPM.