what happened overnight and a few more observations from the sellside
USTs volumes 200%+ overnight!
An eventful overnight at least as far as price action is concerned so right TO the pros for some input
US News: Treasury slump resumes as Fed rate-hike bets intensify, pushing UST 2yr yields above 1.00% for the first time since 2020 BBG The CEO of a vaccine-maker says that life may soon return to normal after two years of pandemic disruption BNN California weighs a proposal to double its taxes FOX Hedge fund star: one big (50bp) rate hike could restore the Fed's credibility and demonstrate their resolve on inflation MW
China cut their 1yr MLF rate and 7-day reverse repo rates by 10bp each on Sunday, the first reductions since April 2020 WSJ Citi's China Economics team expects a total of 25bp in interest rate reductions and a 50bp RRR cut in the first half of this year Citi Indeed, PBOC Vice Governor Liu Guoqiang said today that the central bank will roll out more policy measures to stabilize the economy RTRS China's Q4 GDP growth came in at a faster-than-expected 4.0% YoY in Q4 and 8.1% for all of 2021 RTRS The sell-off in property developers has caught up with China's largest developer by contracted sales last year WSJ China's property sector shrank at a faster pace in the final three months of last year BBG Supply chain woes could worsen as China imposes new lockdowns NYT On Monday China announced that its birth rate plummeted for a 5th straight year NYT
As far as PRICE ACTION / VOLUMES,
Treasuries are lower and the curve a sharply flatter as UST 30yrs tested and rejected key support near 2.174% earlier today. DXY is higher (+0.14%) while front WTI futures (+1.5%) are now at levels last seen in October 2014. Asian stocks were mostly lower (SHCOMP +0.8% though after rate cuts there Sunday), EU and UK share markets are all in the red (SX5E -1%) while ES futures are showing -1% here at 7:15am. Our overnight US rates flows saw good selling (intermediates to long-end) during Asian hours after 1.80% yields in 10's were breached. Activity was more muted during London hours but their flow featured some dip-buying. Despite that buying the curve maintained is flattening bias according to the desk. Overnight Treasury volume was exceptionally robust at ~275% of average all across the curve.
And from THE best in the biz, Ian LyngenBerry ALSO describes an extremely high run rate of UST volume,
The Treasury selloff continued overnight with 10-year yields reaching as high as 1.853% and the 5s/30s curve flattening to 50.8 bp. Overnight volumes were twice the norms with cash trading at 202% of the 10-day moving-average. 5s were the most active issue, taking a 35% marketshare while 10s were a distant second at 28%. 2s and 3s combined to take 23% at 11% and 12%, respectively. 7s managed 7%, 20s 1%, and 30s 6%. We’ve seen two-way flows in 10s, with buying in 2s and selling in 30s.
BBG:
Treasuries Front-End Suffers Losses as Fed Hike Premium Builds
Treasury yields gapped higher led by front end when trading resumed after Monday’s U.S. holiday as Fed rate-hike expectations went into overdrive. Swaps fully price in an initial hike in March and a total of four this year. In Asia, JGBs fell after Reuters reported the BOJ may raise rates before its 2% inflation target is reached.
Though off session highs, yields remain cheaper by more than 6bp in 2-year sector, which reached 1.056% during Asia session, flattening 2s10s curve by 3bp on the day; 10-year yields around 1.82%, cheaper by 3.6bp with comparable bunds and gilts outperforming by 2.5bp to 3bp
Bear-flattening Treasuries move briefly pushed 5s30s spread under 50bp, flattest since March 2020; it remains tighter by ~4bp on the day at ~52bp
S&P 500 futures lower by ~1% with Estoxx50 down 0.9%
Fed rate hikes are in focus as premium builds in front-end yields; last week JPM’s Dimon flagged potential for 7 Fed rate increases, while over the weekend billionaire investor Ackman said U.S. central bank is losing inflation battle and needs to raise 50bps in March to “restore its credibility”
IG dollar issuance slate includes four deals so far; supply is expected to total $35b-$40b this week led by bank deals
Treasury supply this week includes $20b 20-year bond reopening Wednesday and $16b 10-year TIPS new issue Thursday
Three-month dollar Libor +0.60bp at 0.24500%, highest since August 2020
U.S. economic data slate includes January Empire manufacturing (8:30am ET), NAHB housing market index (10am) and November TIC flows (4pm)
Fed speakers in self-imposed quiet period ahead of Jan. 26 policy decision
… AND a few other items from the sellside which appeared in the inbox AFTER putting THIS PDF together and SENDING THIS
Barclays: Global Macro Thoughts: A rocky start to 2022
The macro picture has darkened in recent weeks, amidst slowing growth, upside inflation surprises and a real rate sell-off. Earnings season is likely to drive sentiment over the near-term; we forecast a modest beat. We expect both equities and bonds to struggle for direction near-term and trade in a range.
DBs econ dream team (Hooper & Co): What's in the tails? - Why the speed of impending Fed policy tightening could surprise
In recent months, the Fed has pivoted toward a more aggressive path of exiting from its current ultra-accommodative pandemic emergency policy stance. Our own view has also become considerably more hawkish, with our baseline expecting liftoff in March, four total rate hikes this year, and a rapid drawdown in the balance sheet beginning in Q3. The central message of this note is that we could be in for an even bigger hawkish surprise in the months ahead.
The Fed finds itself now behind the curve as a result of a much faster than anticipated tightening of the labor market, strong increase in wage inflation, a huge overshoot of price inflation, and inflation expectations that could break out above desired levels. While there are still good reasons to expect many of these pressures to ease over the year ahead, there is also a growing risk that they will not, or at least not as quickly as is currently assumed.
To reduce the risk of unwanted momentum building into excessive inflation pressures, the Fed may need to return to a more neutral policy stance sooner rather than later. Monetary policy still works with long and variable lags, and events augur for the return to a more preemptive approach to setting policy in order to avoid the hard or harder landing down the road caused by having to deal with a more persistent inflation problem.
In addition to building the case that this hawkish scenario is a material risk to the outlook, we also calibrate the possibly necessary monetary response, and detail both the data that could push the Fed in this direction over the coming months as well as the most likely sequence of monetary policy actions.
DB Covid update: Omicron PEAKED (and here’s chart proof provided)
And finally, Saxo on what a shrinking balance sheet means for yields?
US Treasury yields resumed their rise last Friday as the US Treasury sent its quarterly survey of primary dealers asking their views on how a Federal Reserve balance sheet runoff might impact its financing needs and issuance decisions. Ten-year US Treasuries rose by 7bps to 1.78%, aiming to their resistance level at 1.8%, first tested last Monday since January 2020, but rejected. The short part of the yield curve also rose, with 2-year yields rising quickly to 0.96%, the highest since February 2020 and close to the pivotal 1% level.
Investors are starting to resonate with the idea that the Federal Reserve will need to complement the imminent interest rate hiking cycle with a reduction of the balance sheet to fight sustained inflation levels. In that case, long-term yields will rise together with short-term yields, tightening the economy more proactively. Indeed, mortgages and borrowing costs are impacted by 10-year yields rather than short-term rates. Therefore, a rise in long-term yields is necessary if the Fed wants to cool off the economy.
Additionally, a balance sheet runoff might enable the Fed to be less aggressive with interest rate hikes, letting the yield curve do a lot of the heavy lifting. At that point, there might not be a need to hike interest rates five times, as Waller recently suggested. It might be possible to limit them to three, catering for a gradual tightening and avoiding the yield curve to further flatten from now. The 2s10s spread is around 80bps, while the 5s30s spread trades at 55bps. Rapid interest rates hikes might lead the yield curve to an inversion, which historically has been a strong indicator of future recessions. It makes sense that the Federal Reserve wants to reduce such risk to a minimum and looks to use all the tools in its power to get a steeper yield curve.
Despite making sense for the Federal Reserve to begin talking about a balance sheet reduction, the market remains on hedge because it’s unsure about the consequences.
The last time the Fed announced it would allow maturing assets to run off the balance sheet was in June 2017, 18 months after the Fed raised interest rates. This time around, Fed officials are talking about interest rate hikes and shrinking the balance sheet in the same year, making a case for higher yields more robust.
Another point needs to be highlighted: if the Fed is looking to shrink its balance sheet already in 2022, why does it continue to expand it? It doesn’t make sense! That’s why there is a possibility that during January’s FOMC meeting, the Fed announces an immediate termination of purchases. With bond purchases ceasing this month, The Fed opens up the way for an interest rate hike already March, followed by an announcement of the balance sheet runoff as soon as in June.
An early end to tapering this month would make sense also under the perspective that the US Treasury will cut its bond issuances as fiscal needs have diminished sensibly compared to the 2020 and 2021 pandemic years. Thus, demand for bonds should continue to remain supported, limiting volatility.
It is not easy to say how high long-term US Treasury yields can go. Indeed, a lot will depend on how aggressive the balance sheet's runoff will be. In 2017, the amount of assets allowed to runoff was initially capped at $10bn per month in total for Treasuries and Mortgage-Backed Securities and gradually increased. The Fed might want to adopt the same strategy or, it might need to be more aggressive depending on how many times it will need to raise interest rate hikes this year.
Additionally, as we pointed out last week, demand for US Treasuries will increase as yields rise. Many investors are still locked in ultra-low yields globally. The US safe-haven can still provide a pick-up over global benchmarks once hedged against FX risk. As an example, EUR-hedged 10-year US Treasuries provide 92bps above the German Bunds.
Therefore, it is safe to assume that the rise in long-term yields will be contained until more details will surface concerning the Fed's balance sheet runoff. In contrast, the front part of the yield curve will continue to rise on the expectations of faster and aggressive interest rate hikes. Thus, we expect a bear flattening of the yield curve to continue.
This week, Fed officials have no scheduled appearance as they have entered the quiet period preceding the FOMC meeting. Yet, it is a week packed with economic data such as the Empire State manufacturing index, Building Permits, and the Philly Fed manufacturing index. We do not expect these data to alter market expectations of an interest rate hike by March. On Wednesday, we have a 20-year US Treasury auction worth following. The 20-year tenor is not as popular as the other, and lack of demand could cause volatility in the long part of the yield curve.
I’ve prolly said TOO much. Have a GREAT start to a short week! Off to the day job!