USDi: RYs hit along with nominals; Inflation risks lurk

Chart numbers 14 Jun 2022
Nominals tested/hit new multi-decade lows but RY sellers were in the mix too, leaving BEs just marginally higher. Some see inflation risks lurking.

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  •  RYs hit along with nominals; Inflation risks lurk

  • Deutsche Bank: Favouring 5s10s B/E steepener


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RYs hit along with nominals; Inflation risks lurk

Outside of today’s $13bn 20y bond re-opening, nominal investors weren’t really putting their money to work on the eve of tomorrow’s Fed decision, leaving the door open for yields to test/reach multi-decade highs with today’s roughly 4-7bps rise in rates.


However, real yield players were apparently also hitting bids in various fits and starts today, ultimately leaving TIPS breakevens narrowly mixed (~ +/- 1bps) at today’s close after a choppy trade intraday. In the backdrop, risk assets traded off (Dow -0.31%, S&P -0.19%, Nasdaq -0.23%) while the energy complex ended mixed (gasoline -1.23%, Brent +0.04%, WTI -0.04%).


Flow-wise in derivatives-space, swap trades on the SDR today included 1y ZC swaps at 272bps, 2y ZC swaps at 264.75bps, 264bps and 263.5bps, 3y ZC swaps at 261bps, 4y ZC swaps at 261.125bps, 5y ZC swaps at 264.125bps, 262.75bps, 263.375bps and 263.5bps, 10y ZC swaps at 266.125bps, and 30y ZC swaps at 258.75bps, 258.5bps and 258bps (for all of today’s trades, see Total Derivatives SDR, which now also includes information on broker/platform).


Looking ahead to tomorrow’s FOMC decision, one dealer reckoned that “the Fed may decide to pause Wednesday,” but he also cautioned that “inflation risk remains high, fueled by latest news on UAW strike, showing that workers may have some bargaining power. This is paving the way to a second wave of inflation as it seems hard to see inflation going back to target with double-digit raises.”


Heading into the final hour of trade, the 2y breakeven is seen at 223.875bps (-0.25bps), 5y at 234.125bps (+1bps), 10y at 237.25bps (+1bps) and 30y at 235.75bps (+0.25bps).



Deutsche Bank: Favoring 5s10s B/E steepener

Strategists at Deutsche Bank have been expressing “a bearish medium-term USD inflation view since beginning of summer on the back of significant downside risks stemming from rent inflation and rich valuations, identifying 5y as the best point to sell.”  That said, the bank concedes that “price action has not been very favorable, with 5y USD ZC inflation swaps moving from a 2.4-2.5% trading range to 2.5-2.6%, and currently sitting at the high-end at 2.60%.” Nevertheless, Deutsche Bank still believe that “both arguments remain valid” and it expounds below:


    “…Owners' equivalent rent of residences (OER) have decelerated from a 0.5% to a 0.4% m/m pace (August print). At the time, we recognized the uncertainty around the timing of pass-through from new tenants rent contracts to CPI rent measures. Furthermore, as flagged by our economists, it is also the magnitude of the slowdown that matters (if not more) - as emphasized by the recent San Francisco Fed publication hinting at shelter inflation potentially at zero or even in deflationary territory on a y/y basis in Q2 24. Overall, we maintain our view that shelter inflation represents a material disinflationary risk for USD CPI over the next months/quarters.


    “…Breakeven valuations remain rich according to our models, albeit a little less dislocated than June. Despite the current ~15 bps richness in 10y breakeven, 5y5y USD breakeven remain too low relative to long-term inflation expectations and uncertainty, while 5s10s B/E appears too flat after controlling for the level of front-end breakevens and macro data. Our overall view has not changed, but given the above we prefer to express it via 5s10s B/E steepener.”