Markets: Fixed Income
On Wednesday, global bonds remained well supported, although equities had a strong start of the second quarter. The underlying mood was however more cautious than the performance of the equity markets would suggest, as commodities and credit spreads widened. The manufacturing surveys were mixed with the Japanese Tankan report plunging lower, the euro zone PMI stabilizing, but the UK PMI and US ISM surprising on the upside. The ADP employment report however disappointed again, which doesn’t bode well for tomorrow’s US Payrolls report.
Both the European and US bond markets traded basically sideways and closed the session little-changed compared to Tuesday’s closing. Intra-day, bonds started the day with some gains, as the European equity indices opened lower. The Bund however failed to break above first key resistance at 124.71 and fell lower. At the start of the US session, bonds moved again towards the session highs, as the ADP employment report disappointed. The move higher however lacked strength and a better than expected ISM survey caused bonds to tumble again. But also this move ran out of steam soon when the Fed purchased $6B of US Treasuries in the 3- and 4- year sector, although equities gained further ground.
On a daily basis, US yields rose by 0.8 basis points in the 2-year sector, but fell by 1.3 and 0.8 basis points in the 5- and 10-year sector. The 30-year sector outperformed with yields falling by 3.3 basis points. In the euro zone, German yields fell by 0.5 and 1.9 basis points in the 2- and 5-year sector. 10-year yields were unchanged, but 30-year yields were up by 2.6 basis points. Consistent with the Bund, German 10- year yields failed to break below first key support at 2.97%, the neckline of a potential double top formation. Intra-EMU spreads were mixed, as the spread of Ireland (-8), Italy (-5) and Greece (-3) narrowed, but those of Belgium (+2), Spain (+1) and Austria (+1) widened.
ECB set to cut rates to 1%, but focus is on more nonstandard measures
Today, all eyes will be focused on the ECB policy meeting and the G20 meeting in London.
In the US, the weekly claims and factory orders are scheduled for release. In the previous weeks, initial claims stabilized somewhat around the level of 650 000. In the week ended March 28, initial claims are forecasted to remain close to this level. Continuing claims on the contrary extended their upward trend and rose to a new record high above 5.5 million last week. For this week, a slight increase is expected. After the upward surprise in the durables, also factory orders are forecasted to have increased in February. The consensus is looking for a rise by 1.4% M/M in the factory orders after falling by 1.9% M/M in January.
On the supply front, France and Spain will tap the market. France will sell €6-8B of four OATs in the 5-, 10-, 20 and 30-year sector, while Spain will sell 3.5-4.5B of its 3- and 5-year benchmarks. Ahead of the auction, French and Spanish bonds underperformed slightly. Earlier this week, the Italian auctions showed only low bid/cover ratios especially for the longer-term 10-year BTP auction. Yesterday, the spread of Belgium widened slightly on the back of new problems in the sale of Fortis to BNP Paribas, as a court decision ruled that only shareholders on the register at the time of the nationalisation by the Belgian government of Fortis Bank last October would be eligible to vote. These are seen as hostile to the take-over and may cause a further delay to the deal.
At its April policy meeting, the ECB governing council will meet under intense pressure to take more forceful action to tackle the mounting financial and economic crisis. Therefore, the ECB governing council is not only expected to cut the repo rate again by 50 basis points to a new historic low of 1%, but also to announce more unconventional measures. Since the previous meeting, both the Bank of England and the Federal Reserve have gone considerably further in their quantitative easing policy and started an asset purchase programme, by which they both buy government bonds and in the case of the UK also corporate bonds on their own accounts. Based on recent ECB comments, the purchasing of government bonds is currently no realistic option, as the ECB doesn’t want to endanger its independence and wants instead governments to keep their public finances in order. Instead, the governing council is likely to decide on a further lengthening of the duration of its refinancing operations beyond the current maturity of 6 months, which should ease liquidity and credit strains in the money markets and thereby improve financing conditions. If financing conditions were however to deteriorate further, a short-term commercial paper facility or the purchasing of corporate bonds is likely to be discussed, like ECB vice president Papademos already suggested on Friday. For a complete preview on the upcoming ECB meeting, we refer to the ECB flash on our website.
Regarding trading, the ECB rate decision should be widely discounted by the market, but any decision on more non-standard measures could still have a positive impact on the European bond market. The impact of the G20-meeting on the other hand should remain limited. Yesterday’s trading session was a bit disappointing, as the Bund tested, but failed to break above the first important resistance level at 124.71, the neckline of a potential double bottom. This confirms our view that the highs remain very tough to break above. Therefore, we hold on to our buy-on-dips approach and favour profit-taking on existing longs at around the highs in the 125.63 (contract high) and 126.53 (contract high on the continuation charts) area should the Bund break higher.
In the UK, Gilts outperformed the German bond market on the back of the results of the Bank of England’s reverse auction, in which they bought £3.5B of Gilts in the 5- to 10-year segment and a successful 6-year Gilt auction for the same amount. Today’s 30-year Gilt auction may however be more difficult, following last week’s failed 40-year Gilt auction.
Today, the Bank of England will publish its quarterly credit conditions survey, which will show whether the recent measure to improve financing conditions have had any success. This morning, the Nationwide house price index came better than expected showing an unexpected monthly rise in house prices of 0.9% M/M.
