3/31/23 – Federal Regulators’ Negligence Adds to March Madness

The flight to quality abated from the panic of mid-March,  but there is a tremendous amount of money that has gone to cash.   The Fed’s overnight reverse repo (managers lend to Fed, the Fed pays interest) attracted its 3^rd highest total since inception – $2.4 trillion.  Money Market Fund assets swelled to a record of $5 trillion.   The dash for cash resulted in outsized moves higher in price for bonds and notes in the Front end.  For example, the one month bill (4/11/23 maturity) was trading at 4.58% on March 9^th – just before SVB meltdown.   The same Bill (4/11s) traded as low as 3.55% on March 27^th , and is now closing today at 4.77% as the worst fears of continued bank contagion have subsided.

There was a more violent move in 2 year US Treasury Notes – Closing at a 5.07% on March 8^th and rallying nearly 123bps to close March 23^rd at 3.84%.  The 2 year note has since backed off and is closing today near 4.08%.

In the investment grade intermediate corporate space, credit spreads have widened about 20bps for the month of March – that spread had widened out as much as 50bps during the SVB shock.  For our accounts we have been adding selectively to investment grade corporate paper in the front end.   In addition we also added to the FHLB position as this entity issued a tremendous amount paper to respond to the banking run.  On average, we added bonds to our portfolios in the 6 to 15 month range at yields ranging from 5.29% to 6.65%.

Nearby Bills became expensive relative to overnight rates and Bill rates out just a few months.   This is due to the flight to quality and the concurrent reduction in Bill issuance by the US Treasury to keep itself under its borrowing limit.  We think it made sense to sell the nearby maturities and extend out.  The market is pricing in less than a 50% probability of a hike at the May 3^rd FOMC meeting and then reverses course and predicts about 50bps of cuts by year end.

Today’s release of PCE deflator showed continued progress towards lower inflation – both the MOM and the YOY figures declined from the previous months readings.   Core PCE YOY still registers 5%.   Next week we get employment statistics on Friday followed by CPI data the following week.

A few companies will release first quarter earnings next week – Conagra and Constellation kick off the season for industrial companies.   Financial companies begin releasing earnings on 4/13.   First Republic Bank will lead off the inning and we hope that they have adjusted to the new MLB pitch clock rules.   Large regional financials and several money center banks report on the 14^th.

We feel that the Fed has tightened enough, considering that they did succeed in breaking a few not so insignificant banks along the way, but we wait for the upcoming data and our analysis of the finance sector’s financial reports before moving the portfolio duration in any significant way.