GBP Swaps: Death in the afternoon; Water flow eyed

Distractions fade, gilts die in the afternoon

With the (relatively few?) Glastonbury highlights now fully viewed on iPlayer, with the men’s Ashes not restarting until tomorrow and with Wimbledon not serving off until an unusually late July 3, bereft GBP fixed income traders had little alternative today but to focus on their market of choice.

It’s fair to say they haven’t liked what they’ve seen. After a slow start things started selling off in the afternoon. And by the 4:15pm end of today’s session, after a benign Monday, 2y gilt yields were +12bps at 5.26%, 10y was +8bps at 4.38% and 30y was +1bp at 4.39% in an 11bps 2s/30s flattening that will seemingly baffle quite a lot of strategists out there.

Also at 4:15pm, gilt futures had sold off 80 ticks on thin 115K volumes and the SONIA futures curve had sold off 2 ticks in the front end and 19 ticks in the Dec25 contract. Breakevens and RPI swaps edged into the red by 1-3bps. 

Looking at the big move in the front-end, one long-standing gilt market participant said this evening that “SONIA has priced in another 15bps in the reds and there seems to be a very strong selling trend there. It feels like people have been caught the wrong way round and that there’s a fair bit of that to sift out.”

“Monetary policy is facing upwards pressure, especially with fixed rate mortgages seen to be dampening its impact, and the market is now pricing in a 6.15% cycle peak and 45bps (of hike) at the next meeting, so as things stand we’re almost guaranteed 50bps!”

He said that there was no UK news today that spawned such a strong GBP market move, but stronger-than-expected second tier US data saw 2y USTs sell-off about 5-6bps, so gilts decided to show that whatever the US could do, they could do better. Although given the current differences between the two countries’ inflation profiles, it’s hard to argue with the relative moves today.

Compared to its nominal sibling, the inflation market was a paragon of calm behaviour. Today’s £1.5bn sale of IL33 came with a hearty 2.33 times bid cover, and blessed little drama. Looking at the tap, one market source said that “the linker sale seemed pretty orderly, it sold off last night and again this morning. It priced just over 1bp (RY) over the market, which is OK, and traded in line after that.”

It came at a real yield of 60.2bps and at the end of play today was 67bps, after selling off in line with its neighbours, and with nominals, in those last couple of hours of the day.

On the outer reaches of the UK inflation diaspora, RPI (and HPI and CPI)-linked issuance from the UK’s privatised utilities have been as rare as living people known as ‘long-serving former Prime Ministers'. Might that change now? In news that may have implications for inflation-linked and/or nominal bond issuance, the UK water regulator Ofwat today gave permission to the UK’s wonderful water companies to spend £2.2bn on improving the UK’s drainage overflows and clean up the more popular of the UK’s filthy swimming hotspots.    

Small as this sum is, it might spur issuance (see Yorkshire Water below), although it might be fairer if instead of having to take debt onto their books, they just increased water bills accordingly. As per normal.

In ASWs, at the end of the day, the 2y was +4bps at 59bps, 5y was +0.3bps at -0.7bps, 10y was -1.2bps at -6.1bps and the 30y is -0.8bps at -57.2bps with the 10s/30s box a touch steeper again.

JP Morgan: Steepening delayed, a bit; 10y ASWs to tighten

In their latest post-MPC look at the outright direction of gilts, as well as the curve and 10y ASWs. JP Morgan makes the following observations/recommendations:

• "Given the BoE tightening cycle will likely persist for longer than both the ECB’s and Fed’s tightening cycles we think the typical late cycle curve steepeners and long duration proxies will take longer to play out in UK rates than Euro and USD rates.

   

• "We project 10Y gilt yields lower under all of our global macro scenarios and have a medium-term bullish bias outright and cross-market vs. USTs but hold off from entering for now. We forecast 10Y gilt yields at 3.90% in 4Q23, slightly higher than our prior forecast given our upward revised BoE rate forecast, with the 2s/10s curve eventually steepening from 4Q23 onwards. The 2s/10s curve is too flat vs. 2Y yields on a short term regression basis.

   

• "We expect the 10s/30s curve to steepen over the coming month.

   

• "We have a medium-term narrowing bias on 10Y swap spreads as we expect ongoing DMO issuance and QT sales, against a backdrop of general weakening in mortgage demand and less mortgage hedging flows over 2H23.

New issues: CPPIB, Yorkshire Water, Arqiva

• CPPIB Capital has priced a £1bn, short 2y bond at gilts +85bps via BofA, Barclays and NatWest.

   

• Yorkshire Water today tapped £25m of 5.5% April 2035 bonds at gilts +170bps via NatWest and £275m of 2.75% April 2041 at +155bps.  

   

• Arqiva Financing has priced £250m, 5y bond at gilts +250bps via HSBC, Lloyds and Santander.