Swap Market Commentary

August 19th, 2015 10:29 am | by John Jansen |

Via a fully paid up ssubscriber who is a market maker in plain vanilla swaps:

Deja vu all over again….once again the rates world awaits the move off zero by the FOMC.  Much like the parable “Before the Law” by Kafka it seems the Fed is standing at the door asking if they can ever go through, the doorkeeper says it is possible but “not just yet”.  Unfortunately the man in the story waits outside this door his whole life without ever going through.  After 7 years at near zero rates it has felt like a lifetime for most.                      Since this first move is so critical, the fact that the market is still split on a move (40% priced in Sep) leaves me feeling less optimistic that the time is now.  The Fed is running out of time to make it clear to the market that a first step is imminent and the recent drop in inflation expectations has weakened the urgency to act.  We do have the minutes today which can add clarity but won’t make anything crystal clear.  The meeting minutes are pre PBOC devaluation so even if the minutes gloss over price declines the markets will add an asterik to that section.                                                If we get another pass from the Fed is it possible we see the curve pitch a bit steeper?  I attached the chart of the 1y1y vs 2y2y with that relationship resting at the range narrows.  The curve flattener has been a market favorite and has gathered steam over the past 6 weeks.  The macro view that either the Fed will hike pressuring the short end or the Fed will wait due to inflation inputs moving the wrong direction which benefits the long end remains intact.  Yesterday we saw a modest steepening in what can only be described as cleaning up some risk and taking some profits on the curve move ahead of the minutes.        Swap spreads are ignoring the general sense of unease in other spread markets as supply, lack of liquidity and large outflows have left IG, HY and EM all at the wides.  Swaps have been held in check by deals being converted back to floating (not as many but still a steady drip) and the recent elevated GC levels that make the cash long of spread wideners less than thrilling from a carry stand point.                                                                  Flows are light with RM adding some duration in the short end and larger macro funds sticking to their guns on the flattening view.  Be back with more post minutes….

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