Markets: Fixed Income
On Friday, global bonds started the week with an outstanding performance, surfing on the waves of renewed risk aversion. Indeed, the rejection by the Obama administration of the carmakers restructuring plans and the bail out of the Spanish regional saving bank, Caja Castilla la Mancha, convinced equity investors to take profit on the strong rally of previous weeks.
In EMU, the eco data were dismal. Spanish building permits slumped 62% Y/Y and inflation dropped in negative territory (-0.1% Y/Y) for the first time in decades. This illustrates the enormous challenges for the Spanish economy hit by a busting real estate market. The EMU economic confidence index dropped in March to new historical low, contrasting with the slight uptick in the PMI sentiment reported last week. The US eco calendar was devoid of eco reports.
Intra-day, the price action was clear-cut. US Treasuries moved higher in the Asian session on weakening equities and the move up continued in early EMU dealings on the same factor. Afterwards the market slid in a sideways range near the intra-day highs where the EMU bonds lingered for the remainder of the day. In the US session, the price action was more volatile and the correlation with equities loosened, as the longer end was sold after the Fed bought only a small amount of very long Treasury securities in its third operation of Treasury purchases. The belly of the curve outperformed the wings in EMU, the opposite of Friday’s move. Yields fell between 3 and 7.7 basis points. In the US, the curve steepened in a bullish way with yields 8 to 1.4 basis points lower.
Intra-EMU yield spreads widened substantially on the risk aversion theme, even before S&P cut Ireland’s AAA rating to AA+ and held its negative outlook, which actually was announced after the cash market closed.
Intra-EMU sovereign spreads narrow significantly
Today, the euro zone calendar contains only the February retail sales and PPI data. In January, euro zone retail sales showed its first monthly increase after three consecutive declines. The better outcome might be due to sharp discounting in the January sales period. For February, the consensus is looking for a drop by 0.4% M/M as consumers cut back spending after the sales period. Therefore, even a weaker outcome is not excluded. Euro zone PPI is expected to have dropped by 0.5% M/M in February, but the data are outdated as we already received the March CPI estimate. Later this week, the calendar remains thin and only contains the final figure of fourth quarter GDP, which is expected to confirm the previous outcome of -1.5% Q/Q, and several national industrial production data. After the soft data, the industrial production data might be disappointing and could therefore have a negative impact on market sentiment. In the US, the eco calendar is empty today and remains boring during the rest of the week.
On the supply front, a lot of smaller EMU member states are planning to tap the market this week, including Austria (10- and 30-yr sector), Portugal (3-yr sector) and Slovakia (4- and 8-yr sector), along with Italy (4-, 10-, 14- and 20-yr sector). Last week, the intra-EMU spreads narrowed significantly on the back of the general improvement in risk appetite. Until now, there have been no major funding problems in the euro zone, but in the UK two longer-term Gilt auctions have indicated that this shouldn’t be taken for granted. Indeed, two weeks ago a 40-year Gilt auction failed to attract enough bids, while last week’s 30-year Gilt auction showed a very soft bidding. This indicates that attention remains warranted, especially for longer-term bond auctions. On Friday, the Ministers of Finance of the euro zone agreed on proposals of the EU Commission, whereby Greece is supposed to reduce its deficit to less than 3% by next year and Ireland by 2013. They also said that France and Spain should prepare corrective measures next year, with a view to reducing their deficits to less than 3% of GDP by 2012.
Regarding the ECB, the market will be closely looking for hints on which nonstandard measures the ECB may take at their next meeting in May. Last week, the ECB surprised the market with a smaller than expected rate cut of 25 basis points to 1.25% and the lack of further unconventional measures. During the press conference, Trichet said that there is still some ‘measured’ room for lower interest rates in the repo rate, but that the deposit rate at 0.25% had probably hit the bottom. He also indicated that the ECB will announce more non-standard measures at the May meeting. The German bond market reacted disappointed and fell sharply both at the short and the longer end of the curve. Especially at the short end of the curve, we are surprised by the extent of the losses, as the ECB has signalled that it may still cut the repo rate somewhat further. Therefore, we see current levels in the Schatz and 2- year German yields as interesting to install new long positions, but are looking first for signs that the correction is running out of steam. At the longer end of the curve, the Bund fell below the first important support area at around 122.53/11 and is now under the negative influence of a short-term double top formation, which suggests that the correction at the longer end still has further to go. This raises the odds for a re-test of the contract lows at 120.37, which also corresponds with the targets of the short-term double top formation. At around these levels, we would favour to go again long. Also in the US, the technical picture of the T-Note future deteriorated and is now under the negative influence of a double top formation.
In the UK, the calendar is empty today.
