Bonds come again under some pressure as risk-on returns

Rates

Risk sentiment improved throughout yesterday’s session and especially in later US trading, keeping US Treasuries (and to minor extent also Bunds) under downward pressure. The Bund, which underperformed US Treasuries sharply on Wednesday, initially tried to move higher before succumbing to the laws of gravity. Strong US durable orders, a weak 5-yr Note auction and a more general favourable risk sentiment were the main drivers despite dovish comments of NY Fed Dudley (see below). In a daily perspective, the German yield curve was little changed with yield less than 2 bps (lower) from yesterday’s dismal closure. US yields were up to 13.3 bps higher, steepening the curve.

Intraday, the Bund gradually rose during the morning session, recouping some modest part of yesterday’s steep losses despite strengthening equities. ECB Praet was dovish (see Sunset report) suggesting that the ECB may have to ease further. The Bund surprisingly fell (modestly), perhaps because stocks kept rising. The US durable orders were a lot stronger than expected. Later on, in an unscheduled address NY Fed Dudley casted doubt over a September rate increase. A lift-off is less compelling than a few weeks ago, he said, even if he didn’t shut the door completely. He shows the Fed is not falling asleep at the wheel and confirms what many in the markets think. The US Treasuries went modestly higher, as equities continued to slide lower. Much later oversold equities started a successful relief rally pushing Treasuries again to the lows.

Today, the eco calendar contains the euro zone M3 money supply and credit growth data, the second estimate of US Q2 GDP, jobless claims and pending home sales. ECB’s Coeuré speaks and the annual Jackson Hole symposium starts. Following a stabilization at 5.0% Y/Y in June, euro zone M3 money supply is expected to have slowed slightly in July, to 4.9% Y/Y. In June, also lending data showed cautious signs of improvement, especially lending to households, while lending to non-financials picked up only marginally. We look out whether there are further signs of improvement in lending in July, especially to corporations. In the US, Q2 GDP will most likely be significantly upwardly revised mainly due to a revision in inventories. The consensus is looking for an upward adjustment from 2.3% Q/Q annualized to 3.2% Q/Q annualized. We believe that the risks are for an upward surprise as also other categories like personal consumption and investments might be revised higher. Also in the US, initial jobless claims are expected little changed in the week ending the 22nd of August. The consensus is looking for a decline from 277 000 to 275 000, in line with the recent trend. We believe that the risks, if there any, are for a lower outcome.

Weak 5-yr & 2yr FRN US Note auctions

The US Treasury continued its end-of-month refinancing operation with a weak $35B 5-yr Note auction. The auction stopped with a significant tail and the bid cover was the smallest in more than six years (2.34). Bidding details showed a very weak indirect bid (reflecting foreign investor demand). Today, the Treasury ends its refinancing operation with a $29B 7-yr Note auction.

Today: more US eco data strength?

Overnight, Asian stock markets build on yesterday’s WS strength though gains are somewhat less outspoken. The US Note future is modestly off yesterday’s intraday low though. Nevertheless, European stocks are set to open on a strong footing, which could be slightly negative for the Bund at the onset of trading.

Today, the focal point of the eco calendar is again in the US with Q2 GDP revision, weekly claims and pending home sales. Risks are generally tilted for stronger outcomes which is a negative for US Treasuries. NY Fed Dudley said that the argument for a September rate hike became less compelling, but stressed the importance of data to come. Recent market turmoil pushed market expectations of a first Fed rate hike into 2016. We don’t rule out a September lift-off yet though, if global markets stabilize the next few days and data are strong. The Jackson Hole powwow might offer more clues in this respect though the key note speech, by vice-chair Fed Fischer, is only scheduled for Saturday.

Recent volatility on equity markets triggered an asymmetrical reaction on core bond markets. Risk off sessions only marginally triggered safe haven flows while risk on corrections caused severe damage to the Bund and US Note future. Given this pattern, we expect the recent highs in the Bund (156.49) and US Note future (129-28+) to hold, even if volatility on equity and commodity markets would return. On peripheral bond markets, a similar pattern is visible. The increased volatility didn’t trigger huge spread widening. Technically, this week’s trading suggests that Monday’s bearish engulfing pattern actually is some short term trend reversal signal which should further protect the topside of the Bund.