USD Swaps: CPI lands amid post-SVB debris; US banks and rate hedges

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CPI lands amid post-SVB debris; US banks and rate hedges

Then initial quake and all the immediate aftershocks from the Silicon Valley Bank collapse seem to have run their course and market participants are sighing a breath of relief today as they sift through the debris.  And with much less angst running through the marketplace today, investors have had some time to refocus on inflation data as that long-awaited February CPI data finally hit the tape this morning.

However, in all, this highly anticipated CPI print was in largely line with consensus expectations as the headline came in on target at +0.4% MoM/+6% YoY while the core came in at +0.5% MoM (versus +0.4% Bloomberg consensus) and in line with consensus on a YoY basis at +5.5%.  Meanwhile, the NSA print came in at slightly softer-than-expected 300.84 versus 300.881 consensus – though this was higher than NSA fixing which was offered down at 300.7 at one point yesterday in very illiquid screens, sources report. 

Post-data, the corrective bear-flattening in Treasuries remains intact with the benchmark 2y note yield currently 31.6bps higher at 4.29% and the 2s10s spread is 27bps narrower at -68bps.  Meanwhile, red and green SOFR futures are 10.5 to 41.5 ticks firmer in the screens while Fed funds OIS futures are implying 4.78% for Apr23.

In swaps, some of the SVB-induced bear steepening in the spread curve (see below for more) is being wrung out today as the curve bull flattens amid strongly above-average activity in the 2y-30y sector. In the backdrop, IG issuance still remains offline despite the decent risk backdrop today (Dow +1.37%, S&P +2.07%, Nasdaq +2.34%)

Elsewhere, much of the discussion on the events that have transpired since the collapse of Silicon Valley Bank has focused on unrealized losses on banks’ securities portfolios. However, strategists at Barclays note that “banks also hedge out interest rate risk through swaps, caps, floors and swaptions, whether as structural hedges for asset-liability mismatches on their balance sheet, for asset swapping their securities or loans, or, conversely, to swap fixed-rate debt issuance to floating.” 

Indeed, CFTC data show that non-swap dealer US banks had substantial net short duration exposure of $1.7trn in 5yequivalents through OTC derivatives, which would have helped as rates rose. However, Barclays finds that “the exposure appears to have been concentrated in a subset of banks that maintained large net short duration hedges in derivatives,” but that ”as of Q3 22, nearly 60% of non-dealer banks may have been flat or net long duration through interest rate derivatives.”  So what are the market/spread implications of this in the wake of the SVB price action this week?  Well, Barclays surmises the following:

”…Based on ENN data, the bulk of OTC derivatives exposure of banks appears to have been in the form of swaps, and the presence of large asset swapped Treasury portfolios may be one explanation for the significant tightening in spreads, especially at the front end on Monday. 2y OIS-Tsy spreads tightened by about -12bp, which is one of the largest tightening moves in history. To put this into context, we have not had a daily cheapening of Treasuries relative fed funds of this magnitude since the Global Financial Crisis, a period that featured many large, sudden spread tightening moves, driven by Treasuries being the most liquid asset that investors could sell.

 

“…Monday’s move also surpassed the 9bp tightening at the height of the COVID crisis (March 2020), when dealer balance sheets were bloated amid the central bank and investor fire sale of Treasuries to raise liquidity. Monday’s spread move is also unique when looking at the drivers of the spread move (2y fed funds OIS and 2y Treasuries). In the latest move, Treasury yields fell but lagged both SOFR and fed funds OIS, leading to tighter spreads. On the other hand,..previous episodes of spread tightening did not see moves of such a large magnitude in rates markets. While the rally in Treasuries can be explained as a flight-to-quality move, the accompanying significant spread tightening suggests selling pressure on asset swap spread positions. One reason may be that many portfolios are held on a swapped basis, and fears on winds of such positions could tighten spreads. If that is the case, the Fed’s new ‘bank term funding program’ facility could help.”

Currently, SOFR swaps – 2s -1.875bps (+9.625bps), 3s -13.5bps (+6bps), 5s -20.875bps (+3.375bps), 7s -29.25bps (+3bps), 10s -26.125bps (+2.25bps), 20s -63.875bps (+1.625bps), 30s -72.375bps (+0.25bps).