USD Swaps: Bull steepening amid risk-off; Weaker backdrop; 2y1y wideners

Price levels 24 Nov 2021
USTs bull steepened while equities soured, led by tech. The swap spread curve steepened. Citigroup favors 2y1y spread wideners. LCH 1st tranche is up

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  • Bull steepening amid risk-off; Weaker backdrop; 2y1y wideners

  • LCH 1st tranche conversion from LIBOR to SOFR coming this weekend  

  • New issues


    Bull steepening amid risk-off; Weaker backdrop; 2y1y wideners

    Treasuries ran higher this afternoon with yields down anywhere from 3.5 to 9.5bps in a risk off move, with the front end leading the rally in a bull steepening move. The 10y note yield is last 3.538% or 5.2bps lower on the day, while 2s10s USTs is last 4.4bps steeper at -61.5bps and 5s30s 3bps wider ay 11.5bps. Equities ended lower (DJIA -0.33%, S&P -0.85% and Nasdaq -0.80%).


    The $21bn 5y TIPS auction stopped though around 1bp but with weaker demand (for more, please see Total Derivatives). The swap spread curve steepened out along with the underlying curve, with front end and belly spreads narrowing versus the very long end, amid mostly lower volumes.


    One source felt that the market “trades nervous” and that while the market is on the quiet side, questions persist on the impact of tighter credit conditions and what it means for loan production and further the trader reckoned that “every piece of economic data is still important.”  


    Looking at the front end of the swap spread curve, analysts at Citigroup believe that forward spreads such as 2y1y have room to widen and it points out that “forward spreads in the front-end and the belly of the spreads curve remain near multi-year lows.”


    “One reason for this may be that 2y spreads are again trading somewhat rich based on our simple fair value model which is a linear regression based on 3m OIS/GC and 2y SOFR/FF basis,” Citigroup explains, while it also finds “3y spreads have traded relatively cheap over the last year driven by the lack of bank and foreign reserve manager demand.”


    Based on “very attractive rolldown” in the bank’s analysis, Citigroup believes that “2y1y still offers very attractive value.”  Thus, Citigroup favors expressing this view via buying 3y spreads hedged with selling 2y spreads. As for risks to the trade, Citigroup judges “that material risk-off…could cheapen front-end spreads.”


    2s +0bps (-1bps), 3s -10.5bps (-1.25bps), 5s -21.25bps (-0.375bps), 7s -29bps (-0.5bps), 10s -29.25bps (-0.125bps), 20s -63.5bps (+0.25bps), 30s -69.625bps (+0.625bps).



    LCH 1st tranche conversion from LIBOR to SOFR coming this weekend  

    As trillions of dollars in legacy Libor contracts must move to the new SOFR rate by the end of June, LCH, which clears more than 90% of global interest rate swaps, will do a small conversion this weekend followed by a much larger conversion on the weekend of May 20 to stay ahead of the deadline. 


    According to sources at LCH, the USD LIBOR Conversion is approximately “3x the previous largest conversion event” or GBP 18Dec21. In consultation with members, LCH designed a 2-tranche process, with a portion of trades is converted in a 1st  tranche and the remainder in a 2nd tranche.


    Overall, sources note that “the tranching has strong net benefits although it does introduce some additional complexity.” This weekend is the Tranche 1 Conversion Date and products involved are VNS (aka “amortisers”) and ZCS (aka “zeros”).


    In total, Tranche 1 deals with around “15% of the total book, but has the advantage of dealing with 2 of the more complex product types and therefore tests the full suite of conversion capabilities,” sources say. Tranche 2, 4 weeks after Tranche 1, will deal with the remaining products (vanilla IRS & Basis).



    New issues  


    • Mexico launched a $1.35bn (CORRECTS) 30y via Citi, HSBC, MIZ and MS.  Baa2/BBB/BBB-. +260bps.


    • Pertamina Geothermal (Baa3/BBB-) priced a $400m 5y Green at 5.15% via ANZ (B&D), BNPP, Citi, HSBC, Mandiri, MUFG, SMBC Nikko and UOB.


    • Japan Finance Organization for Municipalities (JFM) (A1/A+) priced a $1bn 5y at swaps +81bps. Leads are Barclays, BofA (B&D), JPM and Nomura.