Markets: Fixed Income
On Friday, US Treasuries extended their recent losses in thin trading conditions, as European markets were closed for Labour Day. The data were mixed with both the ISM Manufacturing and Michigan consumer confidence better than expected, but the factory orders came out below expectations. On the equity markets, sentiment remained positive, although the S&P500 hasn’t yet been able to break above the previous reaction highs at 877 in a sustainable. Nevertheless, last week’s equity markets’ performance has been quite constructive in the face of the outbreak of the Mexican flu.
Curve-wise, the bear steepening of the US yield curve continued with the 2- to 30-year yield spread setting new highs at 316 basis points. 2- and 5-year yields closed the day little changed, but 10- and 30-year yields made further headway and rose by respectively 3.4 and 3.8 basis points to their highest levels since November last year.
European bonds await Thursday’s ECB meeting
Today, the calendar contains the final figure of euro zone manufacturing PMI and the US pending home sales. The first estimate of the euro zone manufacturing PMI showed a bigger than expected improvement in sentiment (36.7 from 33.9). Today, the final figure is forecasted to confirm this outcome, but we believe the risks might be on the upside of expectations after the significant improvement in other confidence indicators. In the US, pending home sales are forecasted to come out flat in March after rising by 2.1% M/M in February.
Later this week, the economic calendar heats up with the US payrolls report as eyecatcher, but also the ADP employment report and euro zone retail sales will receive some attention. On Friday, the US payrolls report is expected to show a job loss of 620 000 in April, in line with the number of job losses in February and March. We don’t have a reason to distance ourselves from the consensus as we believe it might be too early to expect an improvement in labour market conditions. We keep a close eye on the temporary help agencies as the first signs of improvement might appear in this index. Wednesday’s ADP report might give us a better indication about the April payrolls. Euro zone retail sales are forecasted to show the sixth consecutive decline in March. The consensus is looking for a decline by 0.1%M/M.
Besides the eco data, the central bank meetings from the ECB and Bank of England will be in the focus. The ECB is expected to cut rates by another 25 basis points to 1%, which might be the bottom of the cycle. Therefore, more attention will go out to the additional unconventional measures the ECB governing council will announce. These will likely include a commitment to keep interest rates at very low levels for a prolonged period of time as well as a further lengthening of the ECB refinancing operations beyond the current maturity of 6 months possibly against a wider range of collateral. These measures should have about the same impact as the direct purchases of corporate and government bonds in the UK and the US, but should better fit the euro zone given the dominant role of the banking sector in the financing of the euro zone economy. In the UK, no rate change is expected, but markets will wonder whether the Bank of England will increase the amount of their asset purchase programme.
On the supply front, the net cash flows will again turn negative this week, as no redemptions or coupon payments are scheduled, while Austria, Germany, France and Spain will tap the market.
Regarding trading, German bonds are still within their recent sideways trading ranges. In the Bund, this range is seen between 123.47 and 121.61. In the US however the T-Note future has broken below the neckline of a double top formation at 121-26, with the first target at 119-24+. This indicates that the underlying sentiment has deteriorated, especially at the longer end of the curve. A sustained break higher in the equity markets above the previous highs at 877 in the S&P500 and at 4688 in the Dax may put further downward pressure at the longer end. Therefore, we would only go long again in case of a test of the contract low in the Bund at 120.37 and favour a further steepening of the yield curve.
In the UK, markets are closed today.
