The ECB holds its weekly MRO and liquity absorbing SMP tender

Rates

Global core bonds had a slow start to the trading week and ended slightly lower. The Crimea voted overwhelmingly to join Russia, but markets were not affected as the outcome was expected and discounted. European equity markets rebounded after last week’s sell-off and put some modest downward pressure on core bonds at the onset of European trading. Downwardly revised EMU inflation and mixed US eco numbers were irrelevant to the trading. At the end of the session, the German yield curve shifted 0.5 bps (2-yr) to 2.1 bps (10- yr) higher. In the US, yield changes varied between +1.6 bps (2-yr) and +3.8 bps (10-yr). On intra-EMU bond markets, 10-yr yield spreads versus Germany shed up to 5 bps (Italy) with Portugal (-10 bps) and Greece (-20 bps) outperforming.

After European market closure, Russian President Putin signed a decree recognizing Crimea as an independent state, a necessary step before Russia can proceed with annexation. Putin thereby shrugged off initial EU/US sanctions and warnings of stiffer punishment to come. As with the Crimean referendum, Putin’s actions caused no shockwaves through markets during late US and Asian trading hours.

Today, the eco calendar contains the US CPI inflation, US housing starts and building permits and German ZEW survey. Supply is thin and also central bankers are forecast to remain silent.

In February, US CPI inflation is forecast to have dropped significantly, from an annual 1.6% Y/Y to 1.2% Y/Y. The slowdown in the annual rate is however mainly due to negative base effects stemming from last year’s 0.6% M/M increase in February. On a monthly basis, inflation is forecast to have increased by 0.1% M/M. For the annual rate, we believe that an even lower outcome is not excluded. Core inflation, on the contrary, is forecast to have stabilized at 1.6% Y/Y. Also in the US, both housing starts and permits are forecast to have picked up in February following weather related weakness in December and January.
Regional data might remain mixed as weather conditions remained harsh in several regions. We believe therefore that the risks remain for weaker data, due to weather conditions. Finally, in Germany, the ZEW indicator is forecast to have weakened for a third straight month in March. The consensus is looking for a drop from 55.7 to 52, but we believe that the risks are for a lower outcome as political tensions in Ukraine might have weighed on investor sentiment as well as signs of weakening economics in China.

The ECB holds its weekly MRO and liquity absorbing SMP tender. For the MRO, €92.6B loans mature, while for SMP the ECB will try to drain €175.5B. Last Friday, banks announced for a second straight week that they would repay in excess of €10B in LTRO money. That should reduce excess liquidity again after we had a bounce from around €115B to €147B last week following the ECB tenders ahead of the start of a new reserve period. Tonight we will comment on the results and its impact on eonia rates/excess liquidity in our Sunset report.

This morning, Asian equity indices trade positive with Japan outperforming. Putin’s drive to annex Crimea leaves small traces on markets, but we don’t rule out Ukrainian tensions as a potential market driver yet. The US Note future trades a few ticks higher and USD/JPY, the best risk barometer on currency markets, is lower. Therefore, some modest risk off at the start of European trading can be expected.

Given our risk assessment to today’s eco data (lower US inflation; weaker ZEW and US housing data), core bonds could get slight support. After all, it aren’t the most important economic numbers. On the other hand, markets of course have the FOMC meeting in mind (starts tonight). Given that the Fed will again downwardly adjust its QE tapering pace (from $65B to $55B/month), there’s no real push to drive yields even lower even when one considers a possible change in forward guidance (cfr BoE?). The upcoming Fed meeting could reduce volatility today and tomorrow unless we get new troubling geopolitical headlines of course.