USD Swaps: 25bps hike; Banking shares hit; Bull steepening

25bps hike; Banking shares hit; Bull steepening  

The Fed hiked 25bps, though Powell noted the committee considered a pause. In the statement “ongoing increases” forecast was substituted with “some” increases “may” be needed. The statement also called the U.S. banking system “sound and resilient” while acknowledging that “recent developments are likely to result in tighter credit conditions for households and businesses and to weigh on economic activity, hiring, and inflation” and that the extent of these effects is “uncertain.”

In the Q&A Powell noted that the tighter credit conditions could offset further hike increases. He also noted that Fed officials “just don’t” see rate cuts this year – very much at odds with market pricing of roughly 75bps of cuts by year end.

The curve has steepened dramatically post-FOMC, with the 2y note yield last 23bps lower at 3.949% while the 10y note yield is last 17bps lower at 3.436%. 2s10s is thus 5.5bps steeper at -51.3bps while 5s30s is 15.6bps higher at +13.8bps.

Equities closed lower (DJIA -1.63%, S&P -0.76% and Nasdaq -1.6%). Meanwhile it was an ugly finish for banking shares. The KBW Banking Index dropped 4.3% while in regional banking sector, embattled First Republic shares closed -16.5%, the lows of the day, while PacWest shared ended down -15%.  Also today, Treasury Secretary Yellen stated to a Senate subcommittee this afternoon that she had “not considered or discussed anything having to do with blanket insurance or guarantees of deposits.”  

Swap spreads narrowed in the belly while the wings widened amid mostly below average volumes. IG new issuance was closed today but looks to resume tomorrow as long as conditions do not deteriorate, sources say.

2s +1.25bps (+1.25bps), 3s -10.875bps (+1.25bps), 5s -19bps (+0.125bps), 7s -27.625bps (-0.375bps), 10s -26bps (-0.375bps), 20s -66bps (+0.5bps), 30s -72bps (+1.5bps).

Liquidity issues aren’t as bad as before – JP Morgan

Analysts at JP Morgan see that “volatility has defined the Treasury market for the last two weeks: Chair Powell’s surprisingly hawkish testimony drove front-end yields to their highest levels since 2007, only for the burgeoning US regional and Swiss bank concerns to drive a swift reversal lower, and 2-year yields have traversed a 140bp range over the period.”

“This sharp increase in volatility has driven a quick deterioration in high-level Treasury liquidity metrics, leaving market depth at levels previously observed only during the worst of the Treasury market dysfunction in March 2020,” it highlights.

That said, “in stark contrast to 2020, though, JP Morgan does not see the low level of Treasury market liquidity as a source of concern for financial stability:

“First, changes in market structure in recent years, hastened by changes to bank capital requirements, has transformed the nature of intermediation, helping depth settle at lower levels for a given level of volatility than in the past.”

 

“Second, the deterioration in liquidity conditions has not been uniform in nature: the footprint of each trade in the market, as measured by price impact, has been elevated for the past year, but has not risen appreciably in recent weeks, and remains below crisis levels.”

 

“Third, dislocations have increased but are far from distressed levels… the RMSE to our Treasury par curve has risen about 1bp this month and is above levels observed this time three years ago, but also materially below the local peak observed last fall.”

On the last point, JP Morgan believes that the less distressed RMSE (Root Mean Square Error) levels compared to last fall emanates from demand trends:

”The broad US dollar rallied more than 5% in the late summer as the Fed pivoted hawkishly, resulting in announced and expected currency intervention from DM and EM central banks: the Fed’s custody holdings of Treasuries for foreign investors (as a proxy for foreign official flows) declined $100bn between August and November.”

 

“At the same time, US bank holdings of Treasuries fell approximately $100bn, and deleveraging from the UK LDI community likely seeped into the US fixed income markets as well.”

 

“While the rise in volatility is driving some selling of off-the-run Treasuries and there is a concern over bank deleveraging, the Treasury market is not suffering from the same widespread shedding as occurred during the fall when we were concerned that the 3 pillars of price-insensitive demand for Treasuries was fading.”

Lastly, JP Morgan points out that the 7y to 10y and 10y to 20y sectors “have experienced the largest increases in dispersion this month.”  On a standardized basis, the 7y to 10y sector has experienced larger dislocations, “indicating perhaps this is where the bulk of the liquidations are occurring,” it judges.

New issues

• Korea National Oil (Aa2/AA) plans USD 3y, 5y and 10y bonds via Citi, CA, HSBC and Mizuho.