USDi: BEs snap back higher still; Storm clouds start to clear

Citigroup NY Queens 30 Jan 2023
BEs continued to snap back higher amid better buying and a relatively stable risk backdrop.

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  • BEs snap back higher still; Storm clouds start to clear

  •  Barclays: Keep on keeping at it - Still recommend 5y5y vs 10y fwd 20y BE steepeners

  • Inflation-linked structures


    Click here for SDR inflation swap trade


    BEs snap back higher still; Storm clouds start to clear

    As the dark storm clouds continued to part around the latest banking crisis – with assist today from Fed Chair Michael Barr who was in the hot seat before the Senate Banking Committee – nominals continued to bear-flatten against a relatively stable risk backdrop (Dow -0.12%, S&P -0.16%, Nasdaq -0.45%) and higher energy prices (gasoline +1.01%, Brent +0.87%,  WTI +0.84%) this session. 


    And with this, the U.S. inflation asset class build on yesterday’s gains as breakevens and inflation swaps were marked another  ~3-6bps higher in the 2y-30y sector amid better buying, sources report.  “After a brief early wobble, it was mostly a one-way trade today and while we didn’t see large-size buyers the flow overall reflected better demand, especially in the 10y area,” one dealer explained.  “It certainly felt like that was the case across the street with very little resistance to the bid throughout the session,” he continued. 


    In derivatives-space, inflation swap on the SDR today included 1y ZC swaps at 271bps, 2y ZC swaps at 254bps, 5y ZC swaps at 250.25bps, 248.75bps, 252.625bps and 249bps, and 10y ZC swaps at 251.625bps, 250.875bps, and 257bps (for all of today’s trades, see Total Derivatives SDR, which now also includes information on broker/platform).


    Lastly, looking back on last Thursday’s $15bn 10y TIPS re-opening (TIIJan33s), strategists at SocGen believe that “the auction showed a continuation of the strong TIPS demand from the past couple months.”  However, the bank also finds that “there were some small signs of weakness: the bid/cover declined to 2.28x from 2.79x at the January new  issue auction, and the dealer takedown of 10.9% was up from the previous three 10y  TIPS auctions, though still well below the levels of 1H22.”  Nevertheless, SocGen believes that “with the market expecting the Fed to cut rates in a few months and core CPI at 5.5% yoy, the 10y breakeven below 2.3% likely looks attractive to investors.”


    Heading into the final hour of trade, the 2y breakeven is quoted in the screens at 268.375bps (+5.5bps), 5y at 240.25bps (+5.125bps), 10y at 229.875bps (+4.5bps) and 30y at 225.375bps (+3.5bps).



    Barclays: Keep on keeping at it - Still recommend 5y5y vs 10y fwd 20y BE steepeners

    Where the funds rate will be when the Fed stops hiking and when it begins to ease remains uncertain, but strategists at Barclays note that “the mantra since Chair Powell’s August 2022 Jackson Hole speech of ‘keeping at it’ until inflation is consistent with the Fed’s 2% PCE target was stressed again (last week).”  While the projected path for the fed funds rate in the SEP was much different than what the bank would have expected two weeks ago, it finds that “the inflation-focused reaction function remains.” 


    In his opening prepared remarks at the press conference, Chair Powell noted the Fed’s commitment to bring inflation down to its 2% objective three separate times, and Barclays believes that “this consistency, as well as concern that increased banking sector regulation could be a governor on both real growth and inflation, is likely to keep medium-term inflation expectations consistent with the Fed’s target, and 5y5y BEs and CPI swaps in the range held over the past three quarters.”


    Hence, Barclays continues to believe that “long-term inflation is cheap” and it still recommends “5y5y vs 10y fwd 20y BE steepeners, but think about this as a structural position rather than a tactical trade because structural inflation risk premium may remain low as long as the Fed is raising rates.”



    Inflation-linked structures

    • Credit Agricole is working on a self-led inflation-linked note maturing Apr 2026 that pays CPI NSA*1.5, floored at zero. EMTN.