Fed makes smaller rate increase and signals more to come; interest rate and pricing inversions abound

February 15, 2023

The Takeaway provides practical commentary on interest rates, derivatives and capital markets activities. These insights come from the professionals in CoBank’s Treasury and Capital Markets groups—people who are in the market interacting with customers, investors and other lenders seeking to understand what is driving activity.

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It’s not me, it’s you. Does the Fed have a credibility issue?

As widely expected, the Fed raised its benchmark interest rate 25 basis points to a level between 4.5% and 4.75% at its February 1 meeting in its continuing effort to ease stubborn inflation.

In comments following the meeting, Chairman Jerome Powell said there is still more work to do to reduce inflation, which jumped by 7.5% year over year in January. Powell strongly signaled what is likely to be another 25-basis-point increase at the next Fed meeting in late March.

Once again, however, the interest rate and equity markets reacted with a strong sense of doubt that the Fed would, indeed, continue to increase rates. The result was a short-lived rally in equity and interest rate markets, with two-year Treasury rates decreasing by 10 basis points to 4.1%.

But just two days later, startling news that 517,000 new jobs were created in January and unemployment had dropped to 3.4% brought expectations back to normal, with two-year Treasury rates rising by 35 basis points.

“This isn’t the first time financial markets have responded to the Fed’s guidance with disbelief,” said Jeff Milheiser, vice president, Funding & Investments in the Treasury group at CoBank. “The reaction is odd because the Fed has gone to great lengths to explain what they’re doing and not surprise the market with unexpected moves. It does, however, explain the high level of volatility we’ve been seeing, and which we continue to expect throughout 2023.”

Milheiser added that January’s strong job numbers are contributing to a sense among market participants that there is a greater possibility of a soft landing from what has been a 40-year high for inflation. A soft landing is defined as a slowing of economic growth prompted by higher interest rates, but with less of a negative impact on employment. 

Despite this sentiment, CoBank is still expecting a recession in 2023, although occurring later in the year than previously thought. 


On February 14, the Bureau of Labor Statistics reported that the Consumer Price Index—one of the primary gauges of annual inflation—was 6.4% for January, the seventh straight monthly decrease. 

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Customers ask, “What are my option options?”

The continuing rise in interest rates—although now at a slower pace than in 2022—is prompting some CoBank customers to consider different interest rate risk management strategies, according to Eric Nickerson, CoBank’s sector vice president of customer derivatives.

“We've begun seeing more interest in options as opposed to just straightforward interest rate swaps,” Nickerson said. “Some variable-rate borrowers are hedging their risk using interest-rate caps and coupling those caps with a floor to create an interest-rate collar. With the continued inversion of the yield curve, these kinds of option-based strategies are generating quite a bit of interest.”

Nickerson added that another dominant theme among customers is the move away from LIBOR (London Interbank Offered Rate), which will phase out in June 2023.

“The phase-out of LIBOR in June has created some new urgency to make the shift to SOFR (Secured Overnight Financing Rate),” said Nickerson. “It’s been a bit of a frustrating process for customers because the transition isn’t very straightforward. The mechanics of the two rates can be very different, and there are quite a few moving parts in the transition process. Unfortunately, LIBOR is going away, so the change is unavoidable. But we’re here to help our customers get through it.”

Lastly, according to Nickerson, some customers that locked in swap rates at very low levels before or toward the beginning of the tightening cycle have begun to think that the Fed’s tightening may be overdone. Some customers are considering unwinding their in-the-money swaps based on a view that the Fed will need to embark on an aggressive easing cycle in short order.

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What BWICs tell us about secondary and primary loan market activity.  B… what now?

The secondary loan market allows banks and other institutional investors—such as collateralized loan obligation funds (CLOs), private debt lenders, insurance companies—to buy or sell loan exposure after the primary new issue loan has closed.  

A strong gauge of lender interest in the secondary loan market is an activity that is oddly named Bids Wanted in Competition, or BWIC (pronounced: bee-wick). 

“The BWIC name belies a fairly simple concept,” said Clarence Plummer, senior vice president, Capital Markets for CoBank. “As a CLO matures and rolls off toward the end of its life—say, a 10-year average life—there is a basket of stub loan pieces typically ranging in size from a few hundred thousand to $1-2 million. Rather than continuing to manage the loan stubs, the CLO owner solicits bids—BWICs—and sells the individual loans to the highest bidder in the secondary loan market, transferring the stub loans to the winning bidder via assignment. 

“A good gauge of market demand and secondary market appetite is how well BWICs are absorbed by the market,” Plummer continued. “A well-bid BWIC is a good sign. A poorly bid BWIC is a poor sign.”

Plummer added that although BWIC activity as a market gauge most accurately reflects activity among investment vehicles of like credit quality, he said the current strong interest in BWICs reflects the strong secondary loan market activity that occurred in January.

Secondary loan market expert joins CoBank

Plummer also noted that, reflecting CoBank’s increased activity in the secondary loan market, Todd Helman has joined his Capital Markets team as lead relationship manager for Loan Sales and Trading. Helman is responsible for facilitating secondary loan market transactions across CoBank lending units, Farm Credit System lenders, commercial banks, insurance companies, community banks, direct lenders and CLOs. 

Prior to joining CoBank, Helman was a managing partner at Waveson Capital, focused on secondary loan activity for commercial and community banks in performing, stressed and distressed situations. Previously, he ran the Loan Sales and Trading Desk at Huntington National Bank, executing par and distressed trades across industry verticals. Helman also worked in the Leveraged Finance Group at BBVA, structuring and executing leveraged transactions across various industries.

“Todd’s expertise is a big step in building our capital markets presence and acumen,” said Plummer.

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DISCLAIMER: The information provided in this publication is for informational purposes only and is not to be used or considered as investment research, a proposal, or the solicitation of an offer to sell or to buy or subscribe for securities or other financial instruments. Companies and transactions referenced in this publication are shown for illustrative purposes only, and the provision of such information is not a recommendation or endorsement in this context. Certain information contained in this publication has been obtained or derived from third-party sources, and such information is believed to be correct and reliable but has not been independently verified. While CoBank believes that factual statements in this publication, and any assumptions on which information in this publication is based, are in each case accurate, CoBank makes no representation or warranty regarding such accuracy and shall not be responsible for any inaccuracy in such statements or assumptions. Note that CoBank may have issued, and may in the future issue, other reports that are inconsistent with or that reach conclusions different from the information set forth in this publication. CoBank is under no obligation to ensure that such other reports are brought to your attention. Furthermore, the information may not be current due to, among other things, changes in the financial markets or economic environment, and CoBank has no obligation to update any such information contained in this publication. This publication is not intended to forecast or predict future events.

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