US Payrolls release, defining event of the day

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Core bonds hit by renewed risk-on sentiment

Global core bonds traded down yesterday and closed near the lows in a weak session. The US Treasury curve bear steepened with yields up between 4.5 bps (2-year) and 7.8 bps (30-year). The German yield curve bear steepened too with yields -1.2 bps (2-year) lower to 8.7 bps (30-year) higher. Peripheral bonds did very well but gave back some gains later on. 10- yield spreads finally narrowed 7/9 bps for Spain/Italy and to 12 for Portugal. Greece failed as expected to pay its IMF debt, but that was discounted. Hopes on a Greek deal in a not too distant future remained alive and got a boost as Tsipras surprisingly said, according to the FT, he accepted most of the creditors’ conditions. Safe haven trades were unwound. Later on, surprisingly France showed willingness to try to get a deal as soon as possible, while Germany didn’t want to talk before the referendum. The Eurogroup confirmed later on the German position, but a disunity on the creditors’ side was laid bare, something Tsipras will have noticed. He asked his compatriots to vote No to give him a stronger mandate to negotiate. Core bonds remained near the lows and declined further when a stronger US ADP employment report was released and also a stronger ISM was noticed. However, by that time, the downside was exhausted and some buyers showed up. The return action had no legs though as the payrolls release today loomed. Core bonds fell back towards the day-lows. The ECB continues to freeze the ELA ceiling and left the haircuts intact, awaiting the referendum.

US Payrolls release, defining event of the day

In May, the US payrolls report came out surprisingly strong, showing a pick-up in hiring from 221 000 to 280 000, returning again to the trend seen in the second half of last year. For June, the consensus is looking for an increase in non-farm payrolls by 230 000. We believe however that the risks remain for an upward surprise. Most recent US eco data showed further signs of improvement, the claims remain close to their recent lows and yesterday’s ADP employment report showed a further pick-up in private sector hiring, to the highest level since December last year. The unemployment rate edged up in May, but the underlying picture was robust. For June, the consensus is looking for a reversal of the uptick, from 5.5% to 5.4%. Also average hourly earnings will be closely watched. On a monthly basis, earnings are forecast to have increased by 0.2% M/M, while the annual rate is expected to have stabilized at 2.3% Y/Y.

For the earnings data too, we believe that the risks, if there are any, remain for an upward surprise. Initial jobless claims are forecast to stay broadly unchanged. US factory orders are expected to have dropped for a second straight month.

Overnight, Asian equity markets trade mixed. Chinese equities are sharply lower despite an easing in collateral rules. Other markets show mostly small gains (of up to 1%). US Treasuries are nearly unchanged while the dollar is in good shape after yesterday strong run. We don’t expect new developments in the Greek situation ahead of the referendum on Sunday. No new talks are scheduled and government is still asking for a “No” vote. Various polls on the referendum give contradicting results.

Regarding trading today, it will be the US payrolls report that matters. We see upside risks for both the payrolls and the earnings and stand by the consensus of a decline in the unemployment rate (with a marginal change of a lower outcome). This should be negative for US Treasuries. However, markets probably already partly discounted a stronger figure. Nevertheless, the Fed Fund future only fully discounts the first rate hike by January 2016. Three governors have suggested (Powell, Williams and Bullard) it might be September, while also the influential NY Fed governor Dudley indicated September was a possibility if data remained strong. We had a negative view on US Treasuries and will keep it going into the release. First key support for the T-Note future stands at 124-14+, about a full point below current levels. This means it might be difficult to break (also as the Greek referendum may keep investors cautious). On the other hand, a disappointing report would probably keep the upside limited with strong resistance at 126-20+/29. In yield terms, a move above 2.50% in the 10-year US yield would be relevant. Similarly, a drop below 2.25% would be important (but unlikely). The Bund will be influenced by the post-payrolls reaction of Treasuries, but here the referendum will still play a bigger role in keeping the price action within current ranges. We see support around 150 and resistance just below 153.