Markets: Fixed Income
On Thursday, German government bonds failed to break decisively above key resistance levels and traded sideways to slightly lower along with the US Treasury market. Although the further slowing in M3 money supply and credit growth raised concerns about the sustainability and strength of the economic recov-ery, higher than expected German inflation data, hawkish comments of Fed’s Lacker and a US GDP report that was not as weak as expected weighed on the government bond markets. The reversal on the US equity markets, which rebounded strongly dur-ing the session to close again higher, helped to offset another strong US Note auc-tion.
In a daily perspective, the movements were however very limited and most yields remain close to their recent lows. In the US, 2-year yields declined slightly, but 5- and 10-year yields were up by respectively 4 and 2 basis points. In the euro zone, German yields showed a similar picture, as German 2-year yields declined by 1.2 basis points, while 10-year yields moved 1.1 basis points higher. The intra-EMU sovereign spreads narrowed slightly.
German 10-year yields fail to confirm break lower
Today, the calendar contains the European Commission confidence indicators (Au-gust), Belgian and Spanish CPI inflation (August), US personal income and spending (July) and the final figure of Michigan consumer confidence (August).
The European Commission confidence indicators are forecasted to extend their rebound in August. The consensus is looking for an increase from 76 to 78, but we believe the risks are on the upside of expectations driven by an improvement in the industrial and services sector. Nevertheless, we believe that a better outcome might have only limited market impact after the PMI’s and IFO. Yesterday, German annual inflation unexpectedly jumped back to zero. Today, both Spanish and Belgian infla-tion data are on the agenda and also here, a higher than expected outcome is not excluded. In June, US personal income tumbled by 1.3% due to the unwinding of one-time transfer payments from the Obama administration. For July, the consensus is looking for a small increase (0.1%) in personal income. Personal spending is ex-pected to rise for the third straight month (by 0.2%). According to the first estimate, University of Michigan consumer confidence unexpectedly fell from 66.0 to 63.2 in August, but the final figure is forecasted to show an upward revision to 64.0.
Yesterday, Richmond Fed president Lacker (FOMC voter) sounded as usual somewhat more hawkish than his colleagues at the FOMC, as he warned that ‘keeping inflation well contained may require action before a vigorous recovery has had time to establish itself’ and added that he ‘will be evaluating very carefully whether we need or want the additional stimulus that purchasing the full amount au-thorized under our agency mortgage-backed securities purchase program would pro-vide’. His comments were later on echoed by St Louis Fed president Bullard (FOMC non-voter) who said the central bank may not need to buy all the $1.25T in MBS. Lacker’s comments had only some temporary negative impact on the bond market, as his hawkish comments didn’t really surprise the market and do not necessarily re-flect the overall FOMC stance.
On the supply front, Italy will tap a 3- and 10-year BTP as well as a 7-year CCT for a total amount of €6.5-9B. It will be interesting to see how strong real demand is given the recent sharp narrowing of the spreads and the fact the issues will raise all new cash. Yesterday, the 7-year Note auction in the US once again attracted strong demand and this time the bidding was also good. Treasuries however couldn’t really benefit from the auction results, as equities at the same time reversed course and re-bounded quite strongly to close in positive territory.
Regarding trading, over the past month, government bond markets have per-formed strongly despite the general improvement in the economic outlook. In-deed, despite the rally on the equity, commodity and credit markets, yields are still well below this year highs set at the beginning of June. The improvement in risk appetite has nevertheless led to a significant tightening in the credit spreads, which has even pushed several EMU countries’ yields to new cycle lows. It appears that the outlook for central bank policy rates to remain low for extended period of time has set a new liquidity driven rally on all asset markets into motion, which should also keep longer-term yields rather low. This week’s trading action indeed confirmed that the upside pressure on yields is currently quite limited, as yields continue to ignore the better than expected eco data. From a technical point of view, US 10-year yields failed to retest the 4% level in August and fell below their uptrend line recently. Next important support is seen at around 3.25%, which is the neckline of a potential double top formation. In Germany, similar support is seen at around 3.25%, which is currently under test. A sustained break below would bring the cycle lows again in the picture (see graph above). In the Bund, these levels correspond with 122.85. Yesterday’s session however ended in a technical reversal signal, which sug-gests that the market is not ready for a break higher yet.
In the UK, the calendar is contains the preliminary figure of UK second quarter GDP. Yesterday’s sharply weaker than expected business investment figures suggest there is a risk for a downward revision of the first estimate of -0.8% Q/Q.
