Stocks shine and safe havens lose their luster
- August 17, 2020
Client Relationship Management
Corporates | Kennett Square, PA
A week that began with confidence that Congress would pass another round of fiscal stimulus provided a catalyst for investors to move from safe havens, like bonds and precious metals, into equities.
Last week began with hope of Congress passing another round of fiscal stimulus to combat the continuing economic woes felt by the American public. That sentiment provided a catalyst for investors to move from safe havens, like bonds and precious metals, into equities. As Congress struggled to agree on a deal, equities and rates were propped up by U.S. economic data, including inflation numbers and initial jobless claims that beat expectations. U.S. Initial Jobless Claims came in at 963,000, the first time posting under a million since March. Positive data in the U.S. contrasted with that of the U.K., which released data suggesting the country is in the worst recession it has ever faced.
Government bonds experienced a sell-off that pushed yields up throughout the week. The 10-year U.S. Treasury yield ended up nearly 15 basis points week-over-week, the largest gain seen since early June.
In addition, the U.S. high yield bond markets continued to heat up, and investment grade bonds continue to be highly attractive. In these conditions, corporates are still pursuing cross currency swaps to swap from U.S. Dollars (USD) to Euros (EUR) synthetically when issuing debt in EUR directly is less cost effective or there is less lending appetite. The pick-up from swapping 2.0% Fixed USD to Fixed EUR for 5-years is approximately 1.0% per annum, which has continued to compress, but still offers an opportunity to reduce interest expense and potentially also mitigate currency risk.
(Related insight: Register for the webinar, “Strategic Considerations for Cross-Currency Swaps” on September 10 at 2 p.m. ET)
The U.S. dollar found strength early in the week as U.S./China trade tensions sent investors to the safety of the dollar. However, gains were pared back at the end of the week as a deal for the fiscal stimulus rescue package remained in a stalemate. As of Friday, August 14, EUR/USD was 1.184, GBP/USD was 1.309, and USD/CAD was 1.326.
(Related insight: Download Chatham’s Benchmark Study Report, "The State of Financial Risk Management," to see what peer corporations are doing to manage FX risk.)
The prize for the most intriguing story of the week in the commodities world goes to gold and the rest of the precious metals complex. Precious metals have been enjoying a major rally this year, but the rally hit a wall in the beginning of the week; gold gave up the $2,000 level and surrendered nearly $170 of value over the course of a few days.
Other commodities were mostly range-bound last week, with Brent and WTI both trading within a $2/bbl range. This lower volatility makes options an interesting strategy to manage risk again.
U.S./China trade talks will likely add some distractions this week. In addition, the last FOMC meeting minutes will be released on Wednesday alongside a stream of other economic data to be released throughout the week.
Talk to a hedging or hedge accounting practitioner about your program.
Chatham Hedging Advisors, LLC (CHA) is a subsidiary of Chatham Financial Corp. and provides hedge advisory, accounting and execution services related to swap transactions in the United States. CHA is registered with the Commodity Futures Trading Commission (CFTC) as a commodity trading advisor and is a member of the National Futures Association (NFA); however, neither the CFTC nor the NFA have passed upon the merits of participating in any advisory services offered by CHA. For further information, please visit chathamfinancial.com/legal-notices.
Transactions in over-the-counter derivatives (or “swaps”) have significant risks, including, but not limited to, substantial risk of loss. You should consult your own business, legal, tax and accounting advisers with respect to proposed swap transaction and you should refrain from entering into any swap transaction unless you have fully understood the terms and risks of the transaction, including the extent of your potential risk of loss. This material has been prepared by a sales or trading employee or agent of Chatham Hedging Advisors and could be deemed a solicitation for entering into a derivatives transaction. This material is not a research report prepared by Chatham Hedging Advisors. If you are not an experienced user of the derivatives markets, capable of making independent trading decisions, then you should not rely solely on this communication in making trading decisions. All rights reserved.20-0322
Our featured insights
As we close out summer and brace for cooler weather, the Federal Reserve opened a new chapter on Thursday in its approach to monetary policy. They will shy away from the famed Goldilocks approach to managing inflation and articulated a new way of responding to economic challenges facing our economy.
Volatility is expected as the market reacts to initial jobless claims, consumer confidence numbers, and the Republican National Convention. While existing home sales beat expectations, jobless claims once again exceeded one million and the Fed pushed back the timing of its forward guidance targets.
The Federal Open Market Committee (FOMC) met on Wednesday, September 16, 2020. Chairman Powell emphasized the Committee’s focus on achieving an inflation rate that averages 2 percent over a longer time horizon.
As summer ended, we saw several market and economic headlines that treasury teams should carefully monitor as their organizations plan for 2021. The euro and British pound continued to experience heightened volatility, while the VIX spiked and crude oil broke down following a pretty placid summer.
Equity markets saw continued growth early in the week, with the Nasdaq and S&P 500 reaching all-time highs on September 2. However, Thursday saw a massive sell-off led by the tech industry, signaling that investors are growing wary of record stock valuations against weak macroeconomic fundamentals.
Following the steep drop in USD interest rates, many swaps became significant liabilities. Companies can consider an extend-and-blend strategy, which reduces their swap rate to lower cash interest expense and extends hedge coverage by several years.
While the employment data showed optimism, Treasury yields reflect limited expectations of economic growth and inflation. In this low rate environment, corporates continue to employ extend-and-blend structures for previously hedged floating rate debt and forward hedging of future fixed rate debt.
Ensuring an effective, compliant hedging program means assessing both visible and hidden costs across all hedging activities, including strategy and pricing, legal and regulatory, and accounting.
To choose the best interest rate hedging strategy, understand the pros and cons of derivative syndication as opposed to competitive auctions, direct negotiation and other alternatives.
Driven by the COVID-19 pandemic, U.S. Treasury rates reached all-time lows. Treasurers can take advantage by swapping floating rate debt to fixed and hedging future debt issuances out as far as two years.