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Sunrise Market Commentary

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ECB Weber suggests ECB may halt 12−month tenders in 2010

Fri, Oct 30 2009, 08:06 GMT
by KBC Market Research Desk

KBC Bank

Markets: Fixed Income

On Thursday, global bonds were hit as a good US Q3 GDP report eased fears about the economic outlook and stimulated investors to look for the riskier asset markets. In this respect the GDP report was clearly the trigger across markets to undo the recent profit taking correction. Equities surged, as did commodities, corporate bond spreads narrowed, while the dollar paid the price and softened across the board: typically reflationary trades. In EMU markets, there was a second factor at work. ECB Weber, recently quite dovish and in the past a strong proponent of the ECB’s aggressive liquidity policy, strongly suggested that the ECB would stop its 12 months LTRO operations in 2010. As a result, the German curve flattened bearishly with yield changes from 8.3 to 3.6 basis points. Most peripherals underperformed German bonds yesterday after Moody’s cut the rating outlook of Portugal to negative and put Greece on review for a possible downgrade. In the US, the belly underperformed with the 2-year yield up 3.9 basis points, the 30-year yield 7.7 basis points higher, compared to increased by 8.3 and 10.7 basis points for the 5 and 10-year (even if one should take into account the benchmark change in the 5-year).

Intra-day, the Bund opened unchanged, but lost slightly ground in the first hours of trading. Traders were disturbed by Wednesday’s weak performance in the face of diving equities. The EMU eco data were bond unfriendly too. The EU Commission confidence data showed a further healing of the economy and German unemployment figures continued to surprise with yet another fall. However, later on the Bund erased the losses, as traders prepared for the US GDP figures. However, around noon, the market didn’t ignore the comments of ECB Weber (see below) and sold the short end of the curve. In the afternoon session, it was all the US GDP report that drove the action. The 7-year auction was sloppily bid, but had only a very temporarily (negative impact). Indeed, as soon as the results were digested, Treasuries rose slightly going into the close.

ECB Weber suggests ECB may halt 12-month tenders in 2010

Today, the calendar contains the Chicago PMI (October), final figure of Michigan consumer confidence (October), US personal income and spending data (September), the first estimate of euro zone CPI (October) and the euro zone unemployment rate (September).

After an unexpected decline in September, the Chicago PMI is forecasted to show a slight improvement in October. The headline index is expected rise from 46.1 to 48.9, but the risks might be on the downside of expectations after the disappointing Philadelphia and Richmond Fed. However, last month the Chicago Fed PMI index was hard hit by the end of the cash for clunkers program and as that factor has disappeared, there are some upside risks too. According to the first estimate, Michigan consumer confidence dropped from 73.5 to 69.4, which was in line with the deterioration in Conference Board’s and ABC consumer sentiment. The final figure is however forecasted to show a slight upward revision from 69.4 to 70. In September, US personal income is forecasted to come out flat after two consecutive increases. Personal spending nevertheless is expected to show a decline by 0.5% M/M due to the expiration of the cash for clunkers program. Personal income and spending figures are not expected to move the market after the publication of yesterday’s third quarter GDP growth data. In the euro zone, CPI inflation is forecasted to rebound from - 0.3% Y/Y to -0.1% Y/Y in October. After the upward surprise in Germany, Belgium and Spain, we believe that the euro zone inflation rate is likely to turn flat or positive again. For the euro zone unemployment rate, the consensus is looking for an increase from 9.6% to 9.7% in September.

With regard to monetary policy, the influential German Bundesbank president Weber yesterday suggested that the ECB may start to withdraw its emergency stimulus measures next year by first scaling back its ‘very long-term’ loans to banks. In a speech in Berlin, Weber said that some of the new instruments introduced to combat the crisis will be needed longer than others and specified that ‘from today’s perspective, ‘the unlimited allotment in our main refinancing operations will have to be maintained for a longer period of time than the guarantee of very longterm liquidity’. This suggests that the next 1-year refinancing tender scheduled for December may be the last one, but that the ECB will continue to provide banks with as much liquidity as needed in their (shorter-term) refinancing operations next year as long as they have collateral available. This should enable the governing council to withdraw the excess liquidity in the money markets over a shorter period of time and start raising rates when the time is appropriate. Most probably it will take at least until the first massive 1-year tender, in which €442B was allotted, has expired in June 2010 before rates may be increased. This would also correspond with the end of the ‘covered bond’ purchases, which is also planned for the end of June.

On the supply front, Italy sold €7.37B of bonds yesterday close to the maximum preannounced amount of 7.5B. The auctions were well received, but the downgrade of the outlook to negative from Portugal’s credit rating by Moody’s and the decision to put Greece’s credit rating on review for a possible downgrade led to an underperformance of Portuguese and Greek bonds. Greece was already hit last week, when Fitch cut the rating from A to A- and kept the negative outlook in place. The $31 B 7- year US T-Note auction was sloppily bid, while demand was still reasonable strong. Indeed, the auction stopped at 3.141%, well above the 3.12% in the WI at the moment of the stop. The bid/cover of 2.65 was above the 2.52 average, but the Indirect bid was the lightest of recent months.

Regarding bond trading today, Asian equities are sharply up this morning, but the flat intra-day profile suggests the gains mainly reflect the strong performance of the US equity markets yesterday. These reversed Wednesday’s sharp losses and closed the day with a near bullish engulfing pattern. The same pattern was also visible in the CRB-commodity index. This suggests that the sharp decline on the equity and commodity markets was a correction and that the longer-term uptrend is still intact. However, we need confirmation by convincing further gains in the days ahead. Unless equities surprise, we look for a more sideways end-of-week trading. Both the upside and the downside have been tested earlier this week.

Regarding the European bond market, the longer-term bullish technical picture of the Bund started to deteriorate two weeks ago when the bund fell below a previous reaction high at 121.74. This was a first warning signal that the underlying sentiment was deteriorating. Last week, the Bund also fell below its long-standing uptrend channel, which could now lead to a test of the September lows at 119.85 (KEY). However, only a fall below the September lows would put an end to the higher high, higher low pattern and suggest that a substantial downward correction is looming. This week’s up-move brought the Bund again close to the uptrend channel, but yesterday’s decline confirmed the break lower.

Regarding the US Treasury market, early October, Treasuries broke above key resistance levels, suggesting that another up-leg was in store. However, recent price action has been disappointing and the drop below 118-17+ (prev. high) and 117-20+ (Oct 16 low) (T-Note future) only confirmed the deterioration of the technical picture to neutral from positive. Next key support stands at 116-18 (Sep 9 low/ uptrendline). A break of this level would turn the picture bearish. Mid-week price action was constructive and might indicate a medium term bottom at 116-28 has been reached. However, there is no reason to become overly optimistic, especially not after yesterday’s disappointing price action. So, we would again advice to consider taking profits on longs in case the rebound would bring us closer to the top. In the cash markets, the re-break above 3.30% (10-year) and 4.15% (30-year) confirmed the technical picture of the futures. A renewed drop below these levels is needed to become more enthusiastic short term.

In the UK, the calendar is empty today.

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Published on  Fri, Oct 30 2009, 08:21 GMT