The rise of a rate
The transition to SOFR is picking up steam.
After years at the Federal Reserve, Treasury Secretary Janet Yellen will need time to get accustomed to being on the other side of the policy fence. But her comment about being open to a 50-year government bond shows she has already put on the new hat. In case you were wondering, the last time the federal government issued half-century bonds was to fund the Panama Canal. We congratulate her on being confirmed but hope she will spend more time exploring shorter-dated issuance. After, of course, she sends her signature to the Bureau of Engraving and Printing for new dollars.
Cash managers would like her to guide the Treasury Department to issue ample bills when funding the expected stimulus package to alleviate pressure on short-term yields. Her agenda also should include investigating a new security based on the Secured Overnight Financing Rate (SOFR).
Yes, SOFR is in the news again. New York Governor Andrew Cuomo emphasized it in his 2021 state budget by proposing provisions to ease the transition from the London interbank offered rate (Libor). Tom Wipf, Chair of the Alternative Reference Rates Committee, piggybacked on this to remind everyone that the extension of the mandate doesn’t change the urgency. Most participants in the money markets have cleared this hurdle already given our maturity restrictions for floating-rate securities.
One encouraging development is the launch of the Bloomberg Short-Term Bank Yield Index (BSBY). If it gains market acceptance, it could provide a term curve for prime funds in the way SOFR eventually will for government funds. No transactions have been priced off it yet, but that could come later in 2021.
The shift in the Senate to Democrats means fiscal support will be on the table all year, although politics is complicating the passing of the $1.9 trillion aid package. A couple trillion is a massive amount but getting the economy in gear is the real prize. When the vaccine rollout gains critical mass and people are comfortable going out, we anticipate the recovery to resume its upward path from last summer. That likely will nudge inflation up in some pockets, such as live entertainment. Case in point is…me. I miss theater and sports so much I am willing to pay more than they ask for tickets!
The expected rise in prices won’t be enough incentive for the Fed to raise rates anytime soon, as it reiterated in its January policy meeting. But it could advance the timeline to 2022 rather than 2023.
Industry-wide, while the government space remains immense, flows are trickling back into the prime. We think supply in the municipal market will rise in February after a disappointing January, in which muted issuance might have been due to governments and other entities gauging the likelihood of additional stimulus. In January, the SIFMA swap index yield fell, the 1-month Treasury yield rose then returned to where it began and the Libor curve slipped slightly. We kept the weighted average maturities of our money funds in target ranges of 35-45 days for government and 40-50 days for prime and municipal.