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Sunrise Market Commentary

European bonds start week on a strong footing

Tue, Apr 14 2009, 07:18 GMT
by KBC Market Research Desk

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Markets: Fixed Income

On Monday, US Treasury trading conditions were very thin, as most European bond markets and parts of Asia were closed in observance of Easter Monday. US Treasuries nevertheless gained quite some ground during the US trading session. The move higher occurred already before the US equity markets opened and the Fed purchased $7.37B of Treasury coupon issues maturing between 31/03/2011 and 30/04/2012. Therefore, we would like to see confirmation today before drawing conclusions out of yesterday’s session.

In a daily perspective, US yields declined quite substantially with 2- and 5-year yields down by 8 basis points. The longer end underperformed slightly with 10-year yields down by 6.4 basis points and 30-year yields by 4 basis points.

European bonds start week on a strong footing

Today, the euro zone calendar is empty, but later this week, the March CPI data, February industrial production and trade balance are scheduled for release. According to the flash estimate, euro zone CPI dropped to 0.6% Y/Y in March, halving its annual rate from February, and the final figure is expected to confirm this outcome. Core CPI, excluding food and energy, is forecasted to have dropped from 1.7% Y/Y to 1.4% Y/Y in March. In the coming months, slowing demand and rising unemployment are forecasted to push inflation further down and a temporary negative figure is not excluded. In January, euro zone industrial production showed a record drop (- 3.5% M/M), driven by an awful German industrial production figure (-6.1% M/M). For February, a more modest decline is forecasted (-2.5% M/M) as also German industrial production showed a softer decline. The trade deficit is expected to have contracted from 10.5B to 5.0B in February.

In the US, the calendar contains the March retail sales and PPI data. Retail sales are expected to have risen by 0.3% M/M in March, after falling by 0.1% M/M in the previous month, but most of the rebound is forecasted to stem from increases in automotive and gasoline station sales. Producer prices are expected to extend their downward trend (-2.2% Y/Y from –1.3% Y/Y). Later this week, we will receive more info on the inflation outlook, housing market, business and consumer sentiment and industrial activity.

On the supply front, the Netherlands, Germany, Spain and France will tap the market this week for a total amount of around €20B. In contrast to recent weeks, demand should be well supported by huge redemptions from Italy, the Netherlands and Germany worth €45B. Therefore, the auctions should go rather well, the more as most are also focused at the shorter end of the curve. Indeed, Germany will tap its 2- year Schatz for an amount of €7B on Wednesday, while France tap its shorter-term BTANs for an amount of €6.5-8B on Thursday. Only the Netherlands and Spain will tap longer-term bonds. The Netherlands will tap today its 10-year benchmark for an amount of €2-3B, while Spain will tap the 10- and 15-year segment on Thursday. Over the past weeks, the intra-EMU sovereign spreads have narrowed quite significantly, as they benefited from the general improvement in risk appetite visible on different markets.

On the ECB front, we are still looking for more hints with regard to the unconventional measures the ECB may announce at their next policy meeting at the beginning of May. Until now, the ECB has left all options open, but most comments do point in the direction of a broadening of the collateral accepted and/or lengthening of the maturity of the refinancing operations as well as the purchasing of private debt securities. The purchase of government debt looks no option, as the ECB doesn’t want to muddle monetary and fiscal policy and is eager to keep its independence fully intact. With regard to the broadening of the collateral accepted in the refinancing operations, there is some pressure on the ECB from central and eastern European countries to accept their government’s securities. On Friday, the Polish central bank governor Skrzypek said that such action ‘would boost foreign currency liquidity and diminish pressure on the zloty’.

Regarding trading, the short-term technical picture of the Bund is bearish as long as the Bund remains below the neckline of the double top formation at 122.53. This could lead to a test of the contract low at 120.37, which corresponds with the targets of the double top formation. Therefore, we are not yet eager to install new long positions at the longer end of the curve. At the shorter end, the Schatz outperformed the Bund last week, as the disappointment on the smaller than expected ECB rate cut waned. We continue to favour an outperformance of the short end and consequently look for a steepening of the German yield curve.

In the US, the short-term technical picture of the T-Note future improved yesterday, as the T-Note broke again above the neckline of a double top formation at 122-24. A sustained break above would turn off the red alert. Important resistance levels coming closer in the S&P500 at 877 may provide some support to the bond markets, as these may prove difficult to break above in a first attempt and some profit-taking on the recent rally looks therefore increasingly likely. Since the low at the beginning of March, the S&P 500 has now gained more than 25%. Today, Johnson & Johnson and Intel will publish their first quarter earnings.

In the UK, the calendar is empty today.

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Published on  Tue, Apr 14 2009, 07:23 GMT

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