Quick Takes: EUR rates — What’s new?
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Ali Curi: Hi everyone, and welcome to ION Markets Quick Takes. 

I'm Ali Curi, and every week, along with my guests, Chris Barnes and Mark Bell, we take a quick dive into the headlines on the Clarus blog. 

Let's get started. Hi, Chris. Hi, Mark. 

Chris Barnes: Hey, Ali. How you doing? 

Mark Bell: Hi, Ali. 

Ali Curi: Hello, gentlemen. Chris, let's start with you.

What's your Quick Take for this week, which headline from the ClarusFT blog, would you like to discuss? 

Chris Barnes: All right. This week, I feel like I'm back on stable ground. I feel like I'm on a safe footing with this one. We've done a couple of podcasts recently on swaptions. I've never traded swaptions. We've done a podcast recently on pre-hedging. I've never front run a trade, ever, so it's nice to be back in familiar territory for me. The title of the blog is "EUR rates — What's new?" Most of my bio and stuff on the blog is about my cross currency swaps career, but I also actually traded Euro swaps for two years. And so I naturally always stay very much on top of what is happening in the Euro market, a lot of what we do at Clarus in terms of bringing some market color and looking at the data is very much informed from my time as a Euro rates trader, because back then it was really a prerequisite. It was a really competitive market. You had to try and stand out somehow. And so I wrote daily commentaries. Literally every day coming up with trade ideas, benchmarking what we spoke about yesterday, et cetera, et cetera.

And that kind of process of writing a daily commentary, really led me into data more and more and more and has fed into the blogging skills and now latterly podcasting skills, which we are discovering week on week. 

So Euro rates market, like really, really pleases me to say it's now the biggest swaps market in the world. And that's just an exciting thing to say. It's almost on its own a good enough reason to blog about it. I don't think that that is necessarily widely known. It's not necessarily widely understood why. We've dropped it into a couple of the podcasts over the past six months. I'd just like to have a bit of a standalone moment to put the Euro swaps market under the spotlight, really.

It is now bigger than dollar swaps. Yes, that is largely as a result of LIBOR cessation. Euro rates trade in what we think of as a multiple rate environment. So you still have Euribor. That means you still have one month, three months and six month tenors in that. You still have €STR as well. €STR is the risk free rate as we've looked at in terms of RFR adoption.

Roughly about 35 percent of the market trades against €STR. The rest is still against Euribor. That multi-rate environment means that basis trades still happen in euros for historic reasons. Those basis trades do not trade as a single swap, they trade as two outrights. So if you trade Euribor versus €STR, you will have a Euribor swap and you will have an €STR swap as opposed to having a single swap, which is a floating leg of Euribor and a floating leg of €STR.

I must say like the Euro rates market, it does like those idiosyncratic features. So for example, one of the most liquid products that you can trade in Euro swaps is an invoice spread. So the invoice spread is exactly date matched to the Eurex on futures, those are against German government debt.

So once you've got bund, bobble and shats for the different maturities. And it's a really intricate swap, it's not spot starting. It's starting from the earliest delivery date of the bond. It's not a benchmark tenor. It's a tenor that matches the cheapest to deliver for the underlying swap future.

And yet these products, which are fairly sophisticated, let's say, in their structure, those trade all day, every day, and they are super liquid. It is quite a techie market. The ECB dates trade a lot for €STR as well. And so there is a lot that you can kind of play around with in Euro rates to manage your portfolio.

That means that intrinsically it's an interesting market to follow. It's an interesting market for us to blog about as well. And yet it does make it difficult when I'm trying to present what's happened this year because you really need to see the graphs. You really need to log onto the blog and look at the charts.

Because I can say until I'm blue in the face, 2024 has been a record year for Euro swaps, but it's really difficult to get over the magnitude of that and how the trading volumes have evolved. So look at the charts, please, please, please. I will say that we have done our best to sanity check the numbers.

You know, and I've gone, "Is this just because we've now got €STR futures and there's loads of short data trading?" We check that. No, it's not. "Is it because there's been a lot of repositioning around ECB rate expectations, and so you've had a lot of short swaps trading?" No, it's not because we have records in notional and we have records in DV01 as well.

"Is this just because last year was a rubbish year for volumes?" Hell no, we've gone back all the way to 2017. The past three quarters are the record three quarters of swaps volumes ever for euros. So yes, the dollar swaps market has shrunk as a result of LIBOR cessation and as a result of basis trading stopping for dollars apart from SOFR versus Fed funds.

But this is a real increase in Euro rates volumes too. That's kind of the big thing I want to get over. Mark, you've had a read of the blog, I hope. Any specific questions for me? 

Mark Bell: Yes, I certainly have had a read of the blog and it certainly was interesting that the increase in notional at was mirrored by an increase in DV01, pretty much the same quarters had the same increases over that period, which means of course there is an increase across the curve, not just an increase in short dated or long data trades.

So you said that there's nothing really controversial about the market, but the one thing you didn't mention was shares in volume between LCH and Eurex. And I'm gonna preempt it by saying that the change hasn't happened. So we haven't seen a big change in volumes between Eurex and LCH. But is there any sort of indication that there might be some sort of biofabrication of the market coming up in the future based on changes in regulations or pressure from regulators?

Chris Barnes: It's a great one for us to talk about because in my parlance, this is a known unknown. There is obviously a desire in Europe to move a portion of Euro clearing on shore. We know that. We just don't have a feeling for how it's going to be enacted, whether market participants can do enough voluntarily, whether there's going to be a real kind of forceful move.

I lose track of when equivalence is ending, when it's been extended, et cetera. What I would say is, when I look at the data and I mainly do this for the €STR blogs we write, because that does have an angle of ICE in the UK and Eurex are Frankfurt based. I do tend to look at the Euro swaps picture then as well.

Volumes wise, particularly when you take out frars, it doesn't seem like there is any meaningful move of swaps trading away from LCH in Euros. I think that the market share, I will pluck a number out, but roughly for Eurex on a turnover basis is somewhere around 3 percent number. If you look at €STR trading alone, I think it's even lower.

So we are keeping a super close eye on it, but I would say that this year, nothing has changed so far. 

Mark Bell: And then the second thing you speak about in the blog is balance sheet management. So it sounds from what you've spoken about now. The Euro swaps market is really open for balance sheet management in terms of there being two trades for a basis trade, these invoice spreads that you've spoken about, what other currencies do we see that have this sort of active balance sheet management taking place at the end of the year?

Chris Barnes: I think it's confusing to say balance sheet management as like a concept. What I would say in terms of what I'm talking about in the blog is people having a very firm eye on their gross notional exposures for derivatives. Those gross notionals feed into GSIB scores. GSIB scores feed into your extra capital charges and your gross notional outstanding is something that you can, let's say, "easily target."

And so there is an element of balance sheet window dressing in Q4 of every year whereby we see gross notional shrinking. I think this happens in basis trades for euros, perhaps they collapse the two swaps into one. We see a lot of window dressing in dollar swaps as well, just because of the sheer size.

I think we're done for time today. Please go away and have a read of the blog. There's some great charts there. There's some stuff for everyone as well, it shows how good a year it's been for CCPs. It shows how good a year it's been for certain CEFs as well. And so it was an interesting one to look at to be able to give our readers a holistic view of a market that I'm pretty comfortable with.

Ali, back to you. 

Ali Curi: Well, thank you, Chris. And please tell us again the title of your blog post. 

Chris Barnes: That one was "Euro rates — What's new?" 

Ali Curi: Great. That works. Chris Barnes, Mark Bell. Thank you both for sharing your Quick Takes. Let's do it again next week.

Chris Barnes: Looking forward to Ali. Thank you very much. 

Mark Bell: Thanks very much.

Ali Curi: And that's our episode for today. You can read more about these topics on the Clarus blog, and you can follow ION Markets on X and on LinkedIn. 

Thank you for joining us.