Vols drop back lower; 3y 0%, Risk reversal switch
Swap rates 4 to 7bps lower and implied volatility is back lower, led by selling very short expiries and intermediate expiries. The selloff in volatility has come as a surprise to some, as one source thought that longs would hold out for CPI next week, but “perhaps they are starting to feel the pain of time decay,” he suggested. For example, 1m expiries are down around 2.5 to 4 normals while 1y expiries are softer by roughly 1 to 2 normals.
Meanwhile liquidity remains a persistent problem, magnifying moves with trading direction seemingly shifting day-to-day, and overall, the market continues to seek more data for a firmer sense of direction, a source remarked.
In interbank activity, 3y10y saw a good amount of activity at 1122bps and 1121.25bps as well as 1124bps this morning. Elsewhere, in switches, 1y10y traded versus 6m10y at 713bps and 517bps, respectively, and 3m30y versus 6m30y traded at 638bps and 911bps, respectively. Meanwhile outright, 1m10y dealt at 199bps, 2y10y traded at 961bps and 3m1y traded at 57bps, according to the SDR.
In other switches, 10y10y versus 20y10y traded at 1563bps and 1785bps, respectively, and a 2y5y versus 3y10y traded at 591bps and 1122bps, respectively.
In CFS, 3y 0% floors traded with the bid hit at 16.5bps on a total of $250m, sources say - a level that looked a bit rich, according to one source. In skew, a 3y5y 100bp each way risk reversal dealt versus a 3y10y 100bps each way risk reversal at 40bps and 61.5bps, respectively, sources say.
Elsewhere, in structured note activity, IBRD sold a large $1bn 3y NC3m Green fixed callable through leads Wells Fargo and BMO. The note pays a high coupon of 5.75%.
Bounce in payer skews likely to be short-lived- Citigroup
“After collapsing sharply at the peak of the regional banking stress back in March, short-dated risk reversal skews (payer-receiver) have rebounded meaningfully in recent weeks for the first time,” analysts at Citigroup highlight.
Indeed, the bank points out “the richening in payer skews relative to receiver skews occurred across all rates, with the higher vs lower tail risks on 10y and 30y appearing to be nearly symmetric again.” In contrast, “the tail risk for the 2y is still overwhelmingly tilted to the downside (receiver skew still trading well above payer), reflecting the market’s expectation for the Fed’s hiking cycle to be approaching its end and transitioning to an eventual easing cycle,” Citigroup notes.
Citigroup believes that “the recent outperformance of payers relative to receivers has been justified by the change in the directionality between rates and vol, where swaption vols have increased as rates sold off the last two weeks and decreased as rates rallied.” Historically, the bank finds that “short-dated vol skews have traded somewhat closely with the realized beta of the daily changes of the swaption vol to the daily changes of the forward rate, and this relationship continues to hold.”
“The change in the directionality between rates and vol was largely due to the market’s concern of rates breaking out of their recent range on the high side,” the bank argues and this can be seen in “a simple scatter plot of swaption vol versus the underlying rates over the past two months.”
For example, “swaption vol was at its local low when rates were stuck in a tight range (3m10y rate between 3.10%-3.30%) and vol was meaningfully higher when rates were threatening to break out of that range on either the low or high side” and at the same time, “the rate/vol directionality would be either positive or negative depending on which side of the range the underlying rate falls under at the moment,” Citigroup highlights.
Thus, “given that 3m10y rate is still slightly above the range, the positive rate/vol directionality could persist in the near term but only until rates rally back into the range, which we expect to happen as inflation and growth both moderate further in the second half of the year,” Citigroup assesses.
Hence, Citigroup expects the recent bounce in payer skews to be “short-lived” and the bank sees scope for receiver skews “to outperform again through the year.” Citigroup points out that “investors can position for the return of the negative rate/vol directionality by shorting the risk reversal (long receivers versus payers) and paying fixed in the underlying swap to achieve net flat duration.”
New structured notes
For a complete review of USD MTN activity over the past week, please see USD MTNs.
- JP Morgan sold an AUD42m (CORRECTS) 10y NC5 fixed callable Formosa. The EMTN matures Jun 2033 and is callable annually from Jun 2028 and pays a coupon of 5.75%. Leads JPM, Shanghai Commercial and Yuanta. Announced Jun 6.
- IBRD sold a $1bn 3y NC3m fixed callable. The GMTN matures Jun 2026 and is callable Sep 2023 and every three months thereafter and pays a coupon of 5.75%. Leads WFS and BMO. Announced Jun 6.
- Morgan Stanley is working on a self-led fixed callable maturing Jun 2028 NC2 that pays 5%. Domestic MTN.
- Goldman Sachs is working on a self-led fixed callable maturing Jun 2033 NC18m that pays 5.5%. Domestic MTN.
- Barclays is working on a self-led fixed callable maturing Jun 2024 NC6m that pays 5.5%. GMTN.
- UBS is working on a self-led fixed callable maturing Jun 2026 NC2 that pays 5.2%. EMTN.
- UBS is working on a CMS dual ranger maturing Jul 2025 NC1 that pays 7.75% for the first year and then pays 7.75% as long as CMS2y/30y is greater than zero. EMTN.
- UBS is working on a CMS dual ranger maturing Jul 2026 NC1 that pays 8.81% for the first year and then pays 8.81% as long as CMS2y/30y is greater than zero. EMTN.
- Toronto Dominion is working on a self-led fixed callable maturing Jun 2026 NC1 that pays 5.8%. GMTN.
- Toronto Dominion is working on a self-led fixed callable maturing Dec 2024 NC3m that pays 5.56%. GMTN.
- Royal Bank of Canada is working on a self-led fixed callable maturing Jun 2033 NC18m that pays 5.8%. EMTN.
- Royal Bank of Canada is working on a self-led fixed callable maturing Jun 2028 NC1 that pays 5.6%. EMTN.
- Wells Fargo is working on a self-led step-up callable maturing Jun 2026 NC1 that pays 5.5% to Jun 2024, then pays 5.7% to Jun 2025 and 6% thereafter. Domestic MTN.
- Wells Fargo is working on a self-led fixed callable maturing Jun 2028 NC1 that pays 5.65%. Domestic MTN.
- Wells Fargo is working on a self-led fixed callable maturing Jun 2033 NC2 that pays 5.7%. Domestic MTN.