Treasury yields climb as earnings season begins

Rates climb for the second consecutive week

• Treasury yields advanced across the curve, with the short end seeing the most significant gains.

Funding hedges continue, customer hedging sees increased activity

• Wholesale borrowing hedging has remained popular for liability institutions as the need for wholesale funding remains elevated in the face of heightened deposit competition.

Big banks trim NII guidance

• First quarter earnings season is now fully underway, with many U.S. financial institutions reporting earnings last week.

Housing industry shows weakness, manufacturing data mixed

• Investors received a deluge of housing and manufacturing-related updates last week.

Rates climb for second consecutive week

• Treasury yields advanced across the curve, with the short end seeing the most significant gains.
  • The 2-year Treasury yield ended the week at 4.17%, nine basis points higher than where it started the week, while the 10-year climbed a more modest five basis points to end the week at 3.57%.
• The recent run-up comes amid several Federal Reserve officials signaling support for a 25 basis point hike at the next FOMC meeting.
  • Although recent commentary from officials suggests broad support for a 25 basis point hike, many officials have also signaled the hiking cycle may be nearing its end as lending standards tighten across the banking industry and inflation moderates.
  • The Fed’s Beige Book lent credence to this narrative on Wednesday when it stated that “several districts” reported credit tightening “amid increased uncertainty and concerns about liquidity.”
• Expectations for a hike at the next meeting have solidified in recent weeks, and market pricing now places a 90% probability on a 25 basis point at the early May FOMC meeting.
  • Market expectations for Fed cuts have also pulled back recently. Investors now project only two 25 basis point cuts in 2023, with the Fed’s target range ending the year 25 basis points lower than current levels.

Funding hedges continue, customer hedging sees increased activity

• Despite the modest rate run-up in the last few weeks, hedging activity has continued in earnest.
• Wholesale borrowing hedging has remained popular for liability institutions as the need for wholesale funding remains elevated in the face of heightened deposit competition.
  • Clients have also continued leveraging the flexibility afforded by the Portfolio Layer Method, opting to utilize fixed-rate assets for the hedge accounting relationship while accomplishing a similar economic objective to hedging short-term borrowings.
• Although we saw a moderation in hedging activity of falling rate protection strategies in the wake of last month’s industry stress, asset-sensitive clients have returned in recent weeks to explore and execute these strategies as rates have climbed in the last month.
  • Several clients have recently utilized option products, purchasing interest-rate floors outright or structuring costless collars to subsidize the floor premium.

• Banks and borrowers alike have looked to take advantage of current rates and hedge loans that are coming up for renewal with forward-starting swaps. With high levels of uncertainty surrounding where rates will be in the near term, banks have had success locking up their customers and reducing the risk that borrowers will refinance elsewhere when their loans re-price or mature. At the same time, borrowers have found this strategy appealing as they’re able to gain rate certainty today, rather than continue to ride the rate rollercoaster of the last several months.

Big banks trim NII guidance

• First quarter earnings season is now fully underway, with many U.S. financial institutions reporting earnings last week.
• While many institutions have expressed cautious optimism for the outlook going forward, earnings releases have generally suggested that banks expect deposit costs to rise and net interest income to expand but at a slower pace than initially projected.
  • Huntington and Citizens Bank cut net interest income guidance during last week’s earnings releases as the banks reported deposit outflows and higher borrowing costs.
• Despite the volatility and industry stress experienced in mid-March, many institutions reported deposit stabilization in the last month.
  • The most recent Federal Reserve weekly data indicated that U.S. financial institutions lost $50 billion in deposits in the last week on a non-seasonally-adjusted basis but gained roughly $80 billion above the levels seen a month ago.

Housing industry shows weakness, manufacturing data

• Investors received a deluge of housing-related last week that largely fell below expectations.
  • Housing starts, building permits, and existing home sales each fell month-over-month.
  • As the average 30-year fixed-rate neared 6.50%, mortgage applications declined 8.8% for the week ended April 14, the most significant weekly decline reported in two months.
• The manufacturing industry got a boost when the Empire Manufacturing Index defied calls for a decline and instead rose approximately 35 points to 10.8, the first expansionary reading in five months and the strongest reading since July on the back of increases in new orders and shipments.
  • In a pleasing development for Federal Reserve officials, the latest Empire report pointed to moderating inflationary pressures after the prices paid measure declined to its lowest level since January and fell substantially below the six-month average.
  • Elsewhere, S&P Global’s U.S. Manufacturing Index also defied calls for a decline and unexpectedly moved into expansionary territory for the first time in six months.

The look forward

• Upcoming economic data releases
  • Chicago Fed National Activity Index – Monday
  • Dallas Fed Manufacturing Activity Index – Monday
  • New Home Sales – Tuesday
  • Conference Board Consumer Confidence Index – Tuesday
  • Richmond Fed Manufacturing Index – Tuesday
  • MBA Mortgage Applications – Wednesday
  • Wholesale Inventories – Wednesday
  • Durable Goods Orders – Wednesday
  • Jobless Claims – Thursday
  • First-quarter GDP (advance estimate) – Thursday
  • Core PCE – Friday
  • MNI Chicago PMI – Friday
  • University of Michigan Consumer Sentiment – Friday
• Upcoming Federal Reserve Speakers
  • There are no Federal Reserve speakers this week.

Rates snapshot

Market implied policy path (overnight indexed swap rates)