J.P.Morgan Receive Belly Of 2s/5s/10s IRS Fly

J.P.Morgan note that "in the rush to drag forward rate hikes and price the decay of YCC, the front end of the AUD IRS curve has become very steep. We have more sympathy for front-end bear flattening in bonds, but the belly in IRS now screens around 20bp too high on regression vs. the outright level of 5s, vs. 1Yx1Y, and vs. 2Yx1Y. We receive the belly at a spread of -1.4bp (pay 25K DV01 AUD 2Y IRS at 0.255%, and 25KDV01 of AUD 10Y IRS at 1.595%, receive 50K DV01 AUD 5Y IRS at 0.918%). For those looking to build back into steepening expressions following the post-Fed flattening, AUD 2s/5s/10s exhibits negative correlation to 3s/10s curve at -0.33 over the last year. Those seeking stronger directionality can execute the trade in 3m-forward space, where there is an even greater negative correlation of -0.63. Moreover, receiving the belly also gathers exposure to a potential widening in AUD 5Yx5Y IRS vs. dollars, and so, the regime shift toward Fed tapering/tightening. At present, AUD 5Yx5Y IRS screens fair on regression vs. USD over the post-2016 sample. But the regression fit reflects an average of Fed hiking and cutting cycles. We appear to be moving closer to a Fed hiking regime, in which case AUD 5Yx5Y has tended to trade higher in yield than the regression fit (i.e. AUD swap curve steeper vs. USD). Of course, the RBA is doing QE now, but this is obviously more important for bond than swap, and to the extent this matters for bonds, narrower spreads should be keeping AUD/USD under fair value and so maintaining steepness in the swap curve."