Click here for SDR USD IRS trades.
USTs hit during Powell’s Round 2; UST issuance update
Fed Chair Powell reiterated that further rate hikes may be needed in the second round of his testimony in the D.C. Beltway today – this time before the Senate Banking Committee, while Fed Governor Bowman piggy-backed the theme by also stating that “additional policy rate increases” are needed to wrangle “unacceptably high” inflation.
Reflecting on what may lie ahead after Powell’s remarks, strategists at NatWest posit the following:
- ”…While our own Fed call hasn't changed (we still think the tightening cycle is over), it’s clear that the FOMC wants the market to understand that a hike will be on the table for debate at the next meeting (and future meetings later this year). The Fed's data-dependent approach in this tightening cycle suggests upcoming data releases could shift expectations. Between now and the July 26 meeting, the Fed will have several key data points including next week's core PCE deflator data, the June employment report on July 7, the June CPI report on July 12 as well as the latest Senior Loan Officers' Opinion Survey (which will be available to the Fed at the meeting but only released to the public after the FOMC meeting on July 31), which are likely to shape the Fed's thinking. Summarizing the Fed's data dependent approach, the prepared remarks noted that "We will continue to make our decisions meeting by meeting, based on the totality of incoming data and their implications for the outlook for economic activity and inflation, as well as the balance of risks."
Nevertheless, with Powell and Bowman’s comments coming off the back of this morning’s larger-than-expected 50bps rate hike by the Bank of England (see Total Derivatives) after yesterday’s inflation surprise, Treasuries remained under pressure all session long today with yields closing out the day at/near their session highs. The benchmark 10y note yield is last 7.4bps higher at 3.793% while the 2s10s spread is 0.7bps wider at -99.6bps. And in the backdrop, risk sentiment was mixed but relatively contained this session (Dow -0.01%, S&+0.37%, Nasdaq +0.95%).
Meanwhile, today’s $19bn 5y TIPS re-opening received the red-carpet treatment from investors seeking inflation protection, stopping a whopping 3.8bps through the 1pm level to draw a stop-out yield of 1.832% and a decent 2.56x bid-to-cover ratio. Indirect bidders took down a sizeable 85.1% of the issue while directs claimed 11%, leaving dealers with yet another record low allocation of 3.9%.
And in swaps today, SOFR spreads saw another low activity day, with in all tenors with spreads compressing modestly against the rise in underlying rates. IG new issuance saw a big footprint left by a $4.25bn Nasdaq deal to help fund its purchase of Adenza Group. And this deal, along with the $1bn BBVA Mexico deal that came today, puts the weekly IG tally at just above the $15bn that was initially expected.
Currently, SOFR swaps – 2s -10.125bps (+0.375bps ), 3s -11.75bps (+0.625bps), 5s -21.75bps (-0.25bps), 7s -28.625bps (-0.375bps), 10s -26.75bps (-0.125bps), 20s -63.75bps (-0.75bps), 30s -65.875bps (-0.25bps).
NatWest: UST issuance update
With the first part of the TGA rebuild and the June FOMC meeting now behind us, strategists at NatWest have updated their issuance outlook and break down their expectations in detail below. Overall, the bank now expects a somewhat higher bill supply, on top of auction size increases in coupons that we should see at the August refunding. However, one thing that didn’t materialize so far are the fears around the process of rebuilding TGA – that was in line with NatWests expectations, but the lack of any meaningful reaction at all has been remarkable, in the banks view. NatWest expounds on its supply outlook below:
- ”…What we would describe as the first ‘leg’ of the Treasury General Account (TGA) rebuild is already well underway and we think it is worth taking stock of how the market has digested the Treasury issuance and shifts in liquidity so far….After bottoming out at $22.9bn on June 1st, the TGA has now increased back to $267bn (as of June 16th). The majority of the work was done from net debt issuance – Treasury announced a new line of 6 week cash management bills (CMB), while also bumping up the offerings for the regularly scheduled bills – we will return to our issuance expectations shortly. Quarterly corporate taxes (due June 15th) also helped but have been weak this June after a strong April, particularly after accounting for inflation.
“…Our forecast currently has the June 30th TGA balance at $424bn, basically exactly at Treasury’s target in their post-debt ceiling announcement. In the near term, we expect cash in TGA to peak near the end of July ($554bn on 18th of July, to be specific). By that point, the bulk of the issuance in bills should be completed and we expect to see a decline through August with relatively higher maturities in coupons and continue deficit spending, which would again be reversed in September with the next corporate tax deadlines.
“…We think Treasury will reach its $600bn cash target by the end of September and think they can remain in the $600-700bn range for the remainder of the year. Our assumptions for how that gets funded is via $970bn of net bills and $520bn of net coupon/TIPS/FRNs from July through December. That comes after ~$420bn of net T-bills issued through June (the numbers can be reliably forecasted with the announcements made) and $125bn of coupons.
“…Admittedly, we have raised our Treasury bill issuance higher for a few reasons. First, with the Fed adjusting their dot plot higher and showing very little concern about QT, it now looks more likely that they either continue with QT through the end of the year or even decouple QT from rate hikes/cuts – we still don’t think the latter will happen but cannot ascribe it a 0% probability either. Therefore, we have to assume $60bn of SOMA maturities are replaced in private markets each month. Second, we see a slightly worse deficit through the end of the year compared to our previous estimates, which in turn would require more debt financing.
“…In terms of specifics in auction sizes, for bills we have assumed the 4w auction to peak at $85bn (from $70bn), the 8w at $75bn (from $60bn), 3m at $67bn (from $65bn), 4m to $48bn (from $46bn), 6m at $60bn (from $58bn), and the 1y at $40bn (from $38bn). Additionally, we expect the new 42day regular CMB to eventually enter the permanent roster of Treasury bills – that issue sits in a nice spot for money market funds (MMFs), has been doing the bulk of the fund raising, and should peak at $60bn in our view (from $50bn currently). With all these T-bill auction increases, we think the share of bills as a percent of marketable debt will reach the high end of Treasury’s preferred 15-20% range.
“…For coupons, we expect auction sizes to increase from the August refunding as well. We have pencilled in $2bn/month for the 2y, 3y, and 5y, +$1bn/month for the 7y, 10y and 30y, and no change for the 20y. With a persistently large deficit, we think auction sizes of Treasury notes/bonds will have to go up and Treasury already communicated the possibility of auction size increases as soon as the August refunding. The 7y and 20y have historically underperformed on the curve (notably as both were oversupplied through the pandemic) and Treasury has taken steps to reverse that. In a similar vein, we expect the auction size bumps to be smaller than before or none at all with respect to the 20y.”
- BBVA Mexico priced a $1bn 15y NC10. Leads BBVA, CACIB, GS and JPM. Baa3/BB. Priced at 8.45%.
- Nasdaq Priced a 5-part ($500m 2y, $1bn 5y, $1,25bn long 10y, $750m 30y and $750m40y) to fund its acquisition of Adenza. Leads are BofA, Citi, GS, JPM, MS, Nordea and SEB. Baa2/BBB. Priced at +90bps, +135bps, +175bps, +210bps and +225bps.