USD Rates: Uneasy calm as debt ceiling looms

More issuances after debt ceiling gets lifted
Group Research, Eugene Leow17 May 2023
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    The markets are calm in the leadup to Treasury Secretary Yellen’s X-date of 1st June when the US may run out of funds to fulfil its obligations. Some stress can be seen in the kink in T-bill rates as market participants try to avoid the dates where defaults are more probably. Note the X-date is just an estimate, and the can could be kicked further down the road if revenues surprise on the upside. Demand for protection can also be seen from the rise in 1Y EUR CDS for the US. Beyond these two instruments, there does not seem to be any stresses in US Treasuries of longer tenors or stocks. 10Y yields still stuck in the narrow 3.3-3.6% range while the VIX is firmly below 20 as the SPX stays buoyant.

    Contrary to a more typical entity defaulting, it is more likely that longer-end UST yields would dip on extreme risk aversion than yields go up. This was what happened in 2011 when markets were initially calm, but after S&P downgraded the US by a notch on 5 August 2011, risk off took 10Y yields down by 64bps by end-September. If there is no breakthrough in negotiations, a government shutdown (selected agencies, similar to that seen in November 1995 and December 1996) could take place. Note that it is difficult to call yield moves as it would depend on the likelihood of a recession as well as the likelihood that a resolution is found (debt ceiling gets lifted). The only thing clear is that there will be more net UST issuances once the debt ceiling gets lifted. Assuming no lasting damage on the economy, we would reasonably expect some steepening in the UST curve as downside risks get faded and the private sector starts to digest more issuances.

    Eugene Leow

    Senior Rates Strategist - G3 & Asia
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