USD Swaps: Flatter as Nasdaq gains; Fed and inflation; Brevan
Flatter as Nasdaq gains
Renewed pressure on First Republic shares, down 14% in pre-market trading, has not been enough to stop the UST curve bear-flattening as 5y yields edge back up 3.47% (+2bp) ahead of today’s $43bn 5y auction. And while bank stocks may still be in the red, Nasdaq futures are +1.1% after recent tech earnings and even S&P futures are +0.3%. Meanwhile economic data today showed stronger than expected growth of 3.2% in headline durable goods.
Still, issuance remains quiet with the CDX IG index wider than a week ago, US sovereign CDS still growing (69bps in 5y today) on debt limit concerns and the FOMC meeting on the horizon. Swap spreads are 2.25bps in 2y, -21.75bps (+0.125) in 5y, -29.00bps (+0.25) in 10y and -70.25bps (-0.125) in 30, with outright swap volumes running below average across the curve.
Inflation and Fed rate cuts: DB
Deutsche Bank research this week highlights that the Fed rate cuts priced for next year - about 200bps for the entire 2024 -are expected to take place “while inflation is still relatively high and above the target.” In contrast, in the recent past, inflation had been "below or around the 2% threshold (and well below 3%)” when rates were cut, according to the bank. And this could be risky:
- “If the Fed starts with rate cuts with high inflation, there is a risk that inflation might refuse to decline below its threshold and that, as a result, the long end of the curve begins to price in a higher inflation risk premium. This is precisely what happened in the late 1980s.”
Still, looking a little further back the Fed has cut with inflation above 3% in living memory, for instance in the late 1980s:
- “Between mid-1989 and mid-1990, 10s rose by about 100bp, from 7.8% to 8.8%. During that period, core CPI increased from 4.25% to 5.2% while economic activity continued to slow down.
“According to the economists’ forecast, by the end of this year, we could approach similar initial conditions as we had 35 years ago. This will be supportive for additional steepening of the curve that is not priced in by the current forwards. If rate cuts begin and short rate continues to decline as predicted, this would amount to an actual twist mode of the curve.”
Brevan Howard’s worst month
More details have emerged about Brevan Howard’s torrid March, when the $11bn Master Fund lost -4.22% for its worst month on record and "at least three” Brevan traders hit their stops, according to Bloomberg.
The BH Macro feeder fund, which invests in the Master Fund, lost a very similar -4.14% in March and it’s striking how much of that came from the ‘MF Core’ multi-PM, multi-asset component, which makes up around 43% of BH Macro.
'MF Core' plunged by -8.12% in March and its negative performance contributed -3.61 percentage points to BH Macro’s -4.14% drop. MF Core’s losses were primarily driven by:
- “Directional exposure to US rates, in particular front end. Further losses came from interest rate volatility trading, European Government Bond RV and directional exposure to Japanese rates. Partially offsetting these were gains from UK rates and US inflation."
Other asset classes outside rates weren't much help:
- “FX was down across G10 and EM pairs, with main detractors being MXN and EUR. Equity positions also generated a loss, mainly from tactical exposure to US indices. In credit, losses came from EM Sovereigns and Corporate debt ,as well as tactical European indices trading. Commodity trading had a small net loss, mainly from the energy sector”.
The BH Alpha Strategies Master Fund (BHAL), the other multi-PM component of BH Macro, only fell by -1.83% on the month - albeit for similar reasons:
- “Almost all of the losses came from interest rate trading, with further smaller losses from FX and equity trading, whilst modest gains came from credit and commodity trading. Within interest rates, losses were driven primarily by trading in US interest rates. Other G10 interest rate trading also contributed negatively with losses in European and Japanese rates, while EM markets generated offsetting gains, mainly Brazil and Korea.”
In contrast, among the single PM funds, the top performer was the MB (Minal Bathwal) Macro Master Fund, up 1.49%, then the thematic Global Volatility Master Fund, up 0.78% and the FG (Fash Golchin) Macro Master Fund, up 0.07%. The MB Macro Master fund was also leading for the year to date, with a 6.45% rise over the three months to the end of March, followed by the FG Macro Master Fund with a 1.12% year to date gain.
How did the two successful PMs manage a positive performance? The MB Macro Fund gained on trades in ‘non-core’ rates markets:
- “Losses from directional exposure to US and to a lesser extent Japanese interest rates were more than offset by solid gains from directional and yield curve trading across a range of rates markets including notably SGD, AUD & KRW”
And the FG Macro Master Fund was helped by hedges in the front of the USD curve:
- “Net flat for the month. We had losses from short EUR and USD rates positions which were offset by hedges in front-end USD rates. These hedge trades protected the portfolio over the period of extreme volatility, caused by banking sector concerns.”
More recently, the overall Master Fund ended marginally net long at the end of March, having started the month before the banking turmoil hit with a small short. Most recently, the BH Macro feeder fund was down -0.76% in the month to April 21 and -3.96% for the year to date, although rates have subsequently rallied this week.
- Swedish Export Credit is working on a USD 2y Global at swaps +31bps via BofA, DB, Nomura and TD. Aa1/AA+.
- SMBC Aviation Capital plans a USD 5y at around Treasuries +240bps via Citi, CA, GS (B&D), JPM, RBC and SMBC.
- Sasol Financing plans a USD 6y at around 8.875% through BofA, Citi (B&D), SMBC, IMI, JPM, Mizuho, MUFG, SMBC and StanChart.
- Hungary’s Eximbank Zrt. (BBB-/BBB) is preparing a USD short 5y at around Treasuries +310bps. Leads are ICBC, IMI and JPM (B&D).
- Korean oil firm SK on (Aa3) plans a USD 3y Green bond guaranteed by Kookmin after meeting investors from Apr 27. Leads are BNPP, CA, HSBC, JPM, MUFG and StanChart.
- State Bank of India (BBB-) is preparing a USD 5y through Citi, ENBD, HSBC, JPM, MUFG and StanChart after meeting investors from April 25th.
- Italian government agency CDP (BBB/BBB) plans a USD 3y to 5y bond. Via BNPP, BofA, Citi, GS, HSBC, IMI-Intesa Sanpaolo, JPM, MS and SocGen.