Markets: Fixed Income
On Wednesday, global bonds fell lower in the range, as supply concerns moved again to the forefront and equities traded up for most of the day. During the session, most attention was focused on the UK budget, where Chancellor of the Exchequer Darling unveiled a record amount of Gilt issuance to finance the widening budget deficit. In response, the yield on the 10-year Gilt rose by 13.5 basis points to 3.45%. Today, the US will hold its 5-year TIPS auction and announce the amount of next week’s 2-, 5- and 7-year Note auctions.
In a daily perspective, there was a bear steepening of the US yield curve with 2- year yields up 2.5 basis points, 5-year yields 3.6 basis points, 10-year yields 4.2 basis points and 30-year yields 6.4 basis points. As a result, 10- and 30-year yields are again moving closer towards the top of the recent ranges at respectively 3% and 3.85%. In Germany, the belly of the curve underperformed, as 5-year yields moved 9 basis points higher compared to 5.5 basis points in 2-year yields and 6.9 and 3.6 basis points in 10- and 30-year yields. German bonds again underperformed on the European bond market, as the intra-EMU sovereign spreads narrowed further in spite of the increases in the CDS of several member states.
Intra-EMU sovereign spreads narrow further
Today, the euro zone calendar heats up with the advance reading of the April PMI figures and February industrial new orders. Last month, both manufacturing and services PMI showed a marginal improvement. Manufacturing PMI rose from 33.5 to 33.9 and another slight increase is expected in April (34.7). The risks might be on the upside of expectations after the increase in new orders last month and the upward surprise in the ZEW earlier this week. Also services PMI is forecasted to show its second consecutive improvement (41.4). Industrial new orders are expected to have dropped by 2.2% M/M in February, but the data are rather outdated and shouldn’t contain much new information. In the US, the calendar contains the weekly jobless claims and existing home sales. Last week, initial claims showed an unexpected drop, which might be due to seasonal adjustment factor and these may still play in this week’s figures. Existing home sales are expected to drop by 1.5% M/M in March after rising by 5.1% M/M in February.
Today, the ECB governing council will also hold its non-monetary policy meeting. At this meeting, the council may already try to reach a consensus on the nonconventional measures to be announced at their next policy meeting at the beginning of May. Recent comments from ECB governing council members, like Weber and Stark, have indicated that the ECB is likely to continue to focus its non-standard measures on the banking sector instead of buying corporate and/or government bonds. Hence, comments following today’s meeting need to be closely monitored, as they may contain more detail on the possible consensus reached.
Yesterday, German Finance Minister Steinbrueck said that the Germany economy contracted by 3.3% Q/Q in the first quarter of this year. This already follows a 2.1% Q/Q fall in the last quarter of 2008 and indicates that the pace of contraction has still accelerated during the first quarter. The latter comes not as a surprise, but the figure is nevertheless worse than expected. This raises calls for more economic stimulus, but yesterday Chancellor Merkel and Economics Minister Guttenberg said that a third fiscal stimulus plan ‘makes no sense and is not necessary’. Next week, the German government will present its new outlook, which will include a sharp downward revision of its current growth forecast of -2.25% Y/Y to about 5-6% Y/Y. Yesterday, the IMF projected the German economy to contract by 5.6% this year and by 1.0% next year. Like Japan, Germany is particularly hard hit due to its large dependence on exports. The economic underperformance of Germany may also be the driving factor behind the recent underperformance of German bonds and the narrowing of the intra-EMU sovereign spreads. Especially, at the shorterterm maturities, spreads have dropped sharply since the beginning of the year. The 2-year yield spread of Greece of Germany has more than halved from about 260 basis points to 120 basis points.
Regarding trading, government bonds continue to trade quite volatile, but in the end, little has changed and bonds are still within recent trading ranges. In the Bund, this short-term trading range is seen between 121.61 and 123.14. We are still looking to install new long positions in case of a test of the contract lows at 120.37, but the correction didn’t go that far. As such, we have a more neutral view on the outlook now. Besides the eco data, sentiment on the equity markets may prove again decisive for today’s trading. The 877 level in the S&P remains the key level to watch out for. A sustained break higher may still lead to a test of the downside. In the US, supply concerns may come again to the forefront with the announcement of the amount of next week’s 2-, 5- and 7-year Note auctions. Markets are looking for a total amount of $98B.
In the UK, Gilts reacted quite volatile on the UK budget. After a first rise, Gilts soon reversed course and fell sharply lower. Gross Gilt issuance was revised up much more than had been expected to £220B this year from 146.5B last year and 58.5B the year before, as the budget deficit will almost double to 12% of GDP. The increase in Gilt issuance will mainly take place in medium term (7-15 year) Gilts. As a result, this part of the UK yield curve underperformed. The DMO will also start the use of the syndication method besides regular auctions for long and inflation-linked Gilts to ensure a smooth sale.
Today, the calendar is thin as it only contains the CBI industrial trends survey.
