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Last week was highlighted by carnage in the long end of the Treasury yield curve as both Federal Reserve Vice-Chairwoman Lael Brainard and Kansas City Federal Reserve Bank President Esther George took to the airwaves to say that the Fed would be reducing its $8+ trillion balance sheet very soon. That sent the long end of the curve into a tizzy; completely erasing last week’s 2s-10s inversion, ending the week about 26 basis points higher.
On a side note, the Treasury and Swap yield curves are going to be subject to a ton of volatility owed to the billions of structured notes in the market whose payout formula is dictated by the level of positivity (or lack thereof) in the slope of the yield curve. Not enough time to cover it here, but the zero floor (the worst the noteholders can do is zero so if the curve inverts, somebody else, like the dealer’s derivative desk, wears that risk) feature in these notes plays havoc with dealers hedging activities.
Anyway, on Wednesday, the March FOMC meeting minutes came out and the number $95 billion was bandied about for portfolio runoff targeted per month. Currently, the Fed buys about $1.8 billion a day to replace anticipated monthly runoff from the $2.7 trillion portfolio. Even without a policy change, that daily number is projected to decline to about $1 billion a day as estimated prepayments decline as mortgage rates are now near 5%.
The $95 billion monthly reduction number is a cap. The Fed would like to mix to be about $60 billion in Treasuries and $35 billion in MBS. The Treasury number looks ok, but the MBS portfolio looks like it will come in about eight to 10 billion light given the prepayment speeds of the portfolio as we approach much higher mortgage rates. However, as stated, the $95 billion a month is a cap, so perhaps the Fed will not have to sell a few billion MBS a month just yet.
Whatever the case, this is a big “what if” question the market has to consider, along with all the other burning questions. Good times.
- S&P 500 fell 1.28% for the week. The average daily move was 0.75%.
- The NASDAQ dropped 3.86% for the week. The average daily move for the week was 1.56%.
- The 2-year Treasury yield rose 6 basis points for the week closing at 2.52% on Friday, for yet another new year-over-year high. For those keeping score at home, the note has increased 109 basis points since month-end of February. High year over year 2.52%, low yield .10%.
- The 10-year Treasury yield exploded 32 basis points higher for the week, closing at 2.71% Friday a new year-over-year high and the highest level since early 2019. Year-over-year high yield 2.71%, low yield .91%.
- The VIX Index rose 8% for the week, closing at 21.16 Friday. Year-over-year high 36.45 and low 15.07.
- The MOVE Index increased 15% for the week, closing at 124 on Friday. Year-over-year high 140.03 and low 42.53.
- 5-year Investment Grade Corporates (as measured by Markit CDX) spreads widened 5 basis points for the week closing at 71 basis points Friday. High spread year over year 78 and low of 46.56.
- High Yield corporate debt (as measured by Markit CDX) widened 26 basis points, closing at 400 basis points on Friday. Year-over-year high 411, and low 269.
- U.S. Dollar Index rose sharply, up 1.2% for the week closing at a new yearly high on Friday. Year-over-year high 99.80 and low 89.44.
- WTI Crude declined 1% for the week using the May WTI Futures contract, closing at 98.28 Friday. Year over year 123.70, and low 47.62.
- Gold, as measured by the June 2022 futures contract, rose 1.1% for the week closing at 1,945 on Friday. High price for the front contract year over year 2,043 and low 1,678
- Bitcoin fell 7.3%, closing at 42,815 Friday. High price year over year 67,734 and low 29,865
The Week Ahead
We come in this morning with bond yields under continued upward pressure. The 10-year Treasury is up about six basis points from Friday’s close while the short end of the curve is also getting a beat down. The market continues to price in a more aggressive Fed.
Looking at one-year OIS swaps we are about six basis points higher as breakeven one-year Fed Funds (that is what the Overnight Index measures) is now at 1.93%. For a frame of reference, the current Funds Rate is 34 basis points.
Equities are also under pressure with the growth-heavy NASDAQ 100 taking the brunt, a continuation of last week.
Second-quarter earnings season approaches this week, there is still a big land war in Europe and COVID-19 is continuing to wreak havoc in China, which is why energy and industrial commodities have retreated from multi-year or all-time highs. I do not think that will last much longer. Tomorrow we get March CPI. Wall Street economists estimate is 8.4%.
An index is unmanaged and not available for direct investment. Definitions sourced from Bloomberg.
- The Bloomberg Barclays Global Aggregate Negative Yielding Debt Market Value Index represents the portion of the Bloomberg Barclays Global Aggregate Index that measures the aggregate value of global debt with a negative yield.
- The S&P 500® is widely regarded as the best single gauge of large-cap U.S. equities and serves as the foundation for a wide range of investment products. The index includes 500 leading companies and captures approximately 80% coverage of available market capitalization.
- The NASDAQ Composite Index is a broad-based capitalization-weighted index of stocks in all three NASDAQ tiers: Global Select, Global Market and Capital Market. The index was developed with a base level of 100 as of February 5, 1971.
- The Cboe Volatility Index® (VIX) is a calculation designed to produce a measure of constant, 30-day expected volatility of the US stock market, derived from real-time, mid-quote prices of weekly S&P 500® Index (SPX) call and put options with a range of 23 to 37 days to expiration.
- The ICE BofA MOVE Index is a yield curve weighted index of the normalized implied volatility on 1-month Treasury options. It is the weighted average of implied volatilities on the CT2 (Current 2 Year Government Note), CT5 (Current 5 Year Government Note), CT10 (Current 10 Year Government Note), and CT30 (Current 30 Year Government Note), with weights 0.2/0.2/0.4/0.2 respectively.
- The Markit CDX North America Investment Grade Index is composed of 125 equally weighted credit default swaps on investment grade entities, distributed among 6 sub-indices: High Volatility, Consumer, Energy, Financial, Industrial, and Technology, Media & Tele-communications. Markit CDX indices roll every 6 months in March & September.
- The Markit CDX North America High Yield Index is composed of 100 non-investment grade entities, distributed among 2 sub-indices: B, BB. All entities are domiciled in North America. Markit CDX indices roll every 6 months in March & September.
- The U.S. Dollar Index (USDX) indicates the general international value of the USD. The USDX does this by averaging the exchange rates between the USD and major world currencies. Intercontinental Exchange (ICE) US computes this by using the rates supplied by some 500 banks.
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