FT Alphaville has already noted on Wednesday how financial markets have breached new negative territory.
The 10-year US swap spread — the price to swap floating for fixed-rate payments — dipped below zero for the first time on record.
This is something that isn’t ever really supposed to happen, since it implies that it’s less risky to lend for 10 years to a money market counterparty than to the AAA-rated US.
As the Self-Evident blog notes, explanations given for the move can generally be divided into two categories; fleeting and more permanent. On the temporary side, you have things like increased hedging, or investors anticipating higher interest rates. On the more permanent side, you have US debt supply concerns and general worries over the sovereign’s fiscal situation.
It’s interesting to note, though, that we’ve been in negative swap territory before.
In October 2008, the spread on the 30-year swap rate also dipped below zero, and the rationale given then sounds eerily familiar. For instance, Bloomberg reported at the time:
“Part of the 30-year spread narrowing is a result of derivative hedging-related activity from exotics trading desks,” said Piyush Goyal, an interest-rate derivatives strategist at Barclays Capital Inc. in New York. “It is also a result of the deleveraging of balance sheets, which has triggered selling of long-term Treasury bonds, driving those yields higher relative to swap rates.”
The implication then — as it is now, for some, for the 10-year spread — was that this was to be a temporary phenomenon. Once banks fixed up the holes in their portfolios caused by the collapse of Lehman Brothers and the ensuing money market chaos, the natural order of things would resume.
Except that it didn’t.
30-year swap spreads have continued to hover below or around the zero-mark:
So, history about to repeat itself with the 10-year?
Thoughts/conspiracy theories/swap anecdotes on a postcard, please.
Related links:
New (negative) territory – FT Alphaville
Swap rate falls below US Treasury – FT
Pricing risk redux – FT Alphaville
10-year swap spread turns negative – Self Evident