The 4% handle is where the fixed rate receiver conversation begins in earnest. We've been here before. In fact, we saw peaks at 4.6%, 4.4% and 4.3% in 2023, 2024 and 2025 respectively. We're likely heading back in that direction, but note that the peaks have been less pronounced each time we've hit one. Greedy? Maybe 10-20bp higher from here is the bliss level
The 10yr SOFR rate touched 4% on Monday. That compares with 3.5% just before the Iran war broke out. That 50bp rise has moved the 10yr SOFR rate into a zone that we identify as suitable for receiving fixed. Or at least the discussion in earnest should occur once there is a 4% handle on the 10yr. The starting point for any swap to floating strategy is to get in at a nice elevated rate to receive at for the long term. From there, the play is to let the Fed funds rate evolve, and over time the bet is it averages well below 4%. If so, carry is a cumulative positive. If the funds rate was to average the 3% rate it's averaged at historically (past three decades), then there is some 100bp of carry per annum.
That all being said, we likely have not seen the highs for the 10yr SOFR rate. The war story continues to unfold in a troubling manner, in the sense that no resolution is on the horizon. This is correlating with a slow but steady ratchet higher in inflation expectations. The 10yr breakeven rate hit 2.5% on Monday, and is poised to continue to creep higher. For any given real rate (which has been steady in recent weeks), that translates into upward pressure on nominal rates. In other words, it continues to place upward pressure on the likes of the 10yr SOFR rate and the 10yr Treasury yield. For players looking to swap to floating, the strategy now seems at a good level. But a 10-20bp 'improvement' is also quite plausible in the coming weeks.
From here, we'd be tactically setting fixed-rate payers, as we want to be short the bond market as inflation expectations continue to rise. But the structural play to average in with fixed rate receivers that can then be left on for their full term. Even if the Fed hikes rates, in all probability, the subsequent moves would be cuts, and in the end it's the average tendency over time that really matters for the liability manager looking to lower interest rate costs. For the asset manager, the play is to be short duration now. But beyond that, there will likely be buyers should we break above 4.5%, and from there it makes increasing sense to start to average in. The danger scenario is we head to 5%, but we'd expect the US to find a 'war policy' way to avert such an outcome.
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