GBP Swaps: Underperformance overdone? Welcome strangers

Underperformance overdone?

Gilts were bouncing off the ceiling today, as a gentle relief rally on the debt ceiling story in the USD afforded gilts a little outperformance versus Bunds this morning, which evolved into quite a decent rally after signs of weakness in some of today’s US data releases (specifically labour prices and ISM prices paid).

With the gilt-Bund spread narrowing 4bps to 186.5bps it is tempting to think that the UK headlines today, which were mostly centred on weaker-than-expected housing market data accompanied by headlines warning of a housing marked crash if rates continue on their path, also supported a gentle early drop in yields, which accelerated with every fresh bit of US data.

But it is also true to say that some traders have argued for a while that gilt-Bund spreads cannot widen indefinitely given the inter-connected world in which we all live, and maybe this is the time to see if gilts have slightly overdone their underperformance?  

Or perhaps US non-farm payroll data for April tomorrow (forecast +195k versus previous 253k) will come in way above forecast and the familiar sight of gilts outselling all-comers will return. Headline trading is like that…

Elsewhere, and in the long-dated BofE APF gilt sale today the 0.625% 2050 gilt stole the show with £432.5m, of £452.3m total bids, accepted. This put it way ahead of the 1.75% 2057 gilt (£146m accepted from £172.2m of bids) which was in runners’ up spot.

Overall the bid/cover was 1.35 times, not terrible and easily explicable in the context of a half-term-diminished market. But it is on the low side by APF standards and the BofE will no doubt hope that gilts retain their appeal among all-comers (see BofA below) for the remaining near-eternity of its APF unwind programme.

At the end of play today the 30y gilt yield was -6bps at 4.46%, 10y was -7bps at 4.11% and the 2y was -4bps at 4.28%. ASWs were wider across the board on the gilt rally with the 5y +1.4bps at 22.2bps, 10y was +1.6bps at -11.4bps and the 30y was +1.3bps at -58.6bps. In linkers real yields  were down by 2/3bps across the curve, allow cash breakevens to tighten 3-4bps at most points of the curve.

BofA doubtful about gilts’ reduced need for ‘kindness of strangers’

The first of June it may be but gilt strategists at BofA today were looking back to April for their inspiration in a strategy note that emphasises the need for gilts to retain international appeal during a year of massive supply.

BofA noted that “the data for April in today's Bank of England (BoE) Bankstats report revealed that non-residents bought £14.6bn of Gilts in the month, having sold £36.0bn in the first three months of 2023. In addition, foreign investors bought £0.8bn of T-bills and deposited £7.2bn cash with UK Monetary Financial Institutions (MFIs) in April.”

It cautions that; “Overseas monthly demand for Gilts has been volatile lately, with the 12-month moving average having dipped into negative territory in March for the first time since 2015. This April's £14.6bn of buying by overseas investors is also the largest April buying since 2000, exceeding the £11.5bn bought in April 2021. The April inflow is also comparable to the amount of buying done in the whole of Q2 in previous years.”

In conclusion, BofA says that “DMO supply statistics for April were in line with the Bankstats demand picture for Gilts in April. The syndicated launch of UKTI 2045 on 26 April raised £4.5bn (in value terms), and the DMO noted that 93% of the issue has been taken by the UK domestic market. We have also highlighted recently that the DMO Gilt auction results have been on the stronger side, chiming with the possibility of short-covering and/or Gilt longs being initiated. Big picture, in our view, remains unchanged: we would cast doubt on signs of reduced Gilt reliance on the ‘kindness of strangers’ . It is hard to believe an effective net 2023 supply of Gilts equivalent to 8%/GDP (DMO and BoE combined) can be met without heavy overseas involvement. Reversion to the norm of a larger current account deficit and reliance upon the kindness of strangers seems inevitable.”

New issues: Nationwide

• Nationwide this afternoon priced a £750m 5y Covered Bond at SONIA +48bps via Barclays, HSBC (B&D), Lloyds and NatWest.