UBS Warburg, Schroder Salomon Smith Barney and Deutsche Bank are recommending butterfly trades on the back of recent trades totalling around EUR1 billion (USD1.057) executed in the interest rate swaps market. The firms are pitching trades where investors receive fixed and pay floating in the 10-year portion of the curve and pay fixed and receive floating in the two- or five-year portion of the curve as well as the 30-year portion.
The trades that went through the swaps market last week involved traders receiving fixed interest rates in the long-end of the swap curve which flattened the spread between 10-year and 30-year swaps by five basis points, according to traders and strategists.
Rory Byrne, European fixed income strategist at Schroder Salomon Smith Barney in London, said this activity has created an opportunity for investors to put on a butterfly trade, as long as they have the view that this activity is not a precursor of more liability hedging. He does not expect funds to come back en masse because last week's trade seemed like it was the re-hedging of previous positions.
Jean Dumas, head of European relative value research at Deutsche Bank, thinks a lot of the liability hedging is complete, assuming interest rates do not go much lower. Meyrick Chapman, derivatives strategist at UBS Warburg in London, said the 5-10-30-year butterfly is trading at 30bps, which is a relationship that is hard to maintain, regardless of liability hedging activity.
