Enter 2s5s 6m forward flattener @ 64bp. P/L: 50bp/74bp. Roll down: 3bp/6m.
After the move upward in yields, forward rates have picked up sharply and, in our view, seem to have moved too much. In particular, we think the 2s5s 6m forward spread is interesting since it has moved 20bp over the last three weeks and on top of that offers a positive roll down of roughly 3bp over the first six months. Market pricing has altered a lot without any significant change in the economic outlook. For instance, the implied repo rate in 5y years has moved from 0.25% to 0.95% in just three weeks. This is an aggressive move, in our view. One could argue that the projected repo rate was too low according to market pricing, but the Riksbank will have difficulty hiking rates unless inflation picks up. The market is pricing an average inflation rate of only 1.45% over the next five years (1.25% in CPIF, i.e. CPI adjusted for priced rate hikes). Needless to say, the pricing of hikes doesn't match with pricing in the inflation market. Hence, if investors are worried about inflation, we recommend protecting the flattener with a BEI spread, buying SGBi3107 or SGBi3110 against the corresponding nominal bonds (SGB1051, SGB1052).
Amid the cheapening of the 5y segment we also take profit in our 2s5s10s fly where we have been a payer in the 5y segment against the wings. We take profit at 8.5bp. Profit 13.5bp.
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