Markets: Fixed Income
On Thursday, global bonds had a rather lacklustre session, as uncertainty reigned amid mixed macroeconomic data, but ongoing strong corporate earnings.
During the morning session, global bonds got some support from the decline on the equity markets, which opened lower following the overnight losses on the US and Asian equity markets. Strong Chinese Q3 GDP growth data or a further rise in the French business confidence couldn’t improve investors’ sentiment, while the UK retail sales disappointed with a stabilization in September. Another batch of strong earnings from McDonalds, Dow Chemical and Philip Morris boosted sentiment ahead of the US session and pushed bonds a bit lower. But when an unexpected rise in the weekly claims failed to generate a positive reaction on the bond markets, bonds fell towards their intra-day lows in the US. Bonds rebounded afterwards, as US equities opened lower, but when equities regained their composure and closed higher, bonds closed the session little-changed.
In the US, the yield curve steepened after Fed governors, Evans and Rosengren, indicated that the Fed is in no rush to withdraw monetary policy stimulus. 2-year yields fell by 1.6 basis points, while 10-year yields rose by 2.8 basis points. In the euro zone, bonds outperformed with German yields down by 1.5 to 2.5 basis points across the yield curve. The peripherals did still even better, as most intra-EMU sovereign spreads narrowed further.
Bund confirms break below uptrend channel
Today, the euro zone calendar contains the October PMI’s and German IFO. In the US, the existing home sales are scheduled for release (September). Last week, the German ZEW showed an unexpected decline for October, but we didn’t take it too serious as the ZEW is based on analysts’ expectations instead of the businesses themselves and the index ran already far ahead of the other euro zone business sentiment indicators. Both the PMI’s and German IFO might give us a more reliable indication. Markets are looking for a slight improvement in both the PMI’s (manufacturing from 49.3 to 50, services from 50.9 to 51.3) and IFO (from 91.3 to 92.0), but we believe that the risks might be on the upside of expectations as both French and Belgian business confidence yesterday, came out better than expected. In Germany, also the election victory of the business friendly Christian and Liberal Democrats might have a positive impact on German business confidence. In August, US existing home sales disappointed, showing the first (unexpected) decline in five months. For September, the consensus is looking for an increase by 4.9% M/M, to a total number of 5.35M. We have no clear view on the risks as the earlier released housing data surprised on the downside of expectations which might be due to the expiration of the government’s support for the US housing market, but last month’s pending home sales surprised on the upside of expectations. Nevertheless, a downward surprise might have a positive impact on the Treasury market.
With regard to monetary policy, ECB’s Weber, Fed president Bernanke and Fed vicepresident Kohn are scheduled to speak today. German Bundesbank president Weber isn’t expected to move the market, as he spoke already yesterday. In a speech in Jerusalem, Weber said that while it is essential to develop an exit strategy, there is surely no need to rush to implement such a strategy at the current juncture. Kohn and Bernanke will speak on regulation at a Boston Fed conference, which isn’t of immediate market interest. Overall, we don’t expect the Fed to change their recent message on monetary policy, as the Beige Book pointed to a very slow recovery of the US economy and little to no inflationary pressures.
Yesterday, the Swedish central bank left rates as expected unchanged at a record low of 0.25% and also kept the repo forecast unchanged, which implies that the rate is expected to remain at this low level until autumn 2010. The Bank also decided to offer loans to the banks at a fixed interest rate and with a maturity of 11 months. The decision to issue new loans was based on a 3-3 division with Governor Ingves having the deciding vote. The very thin majority indicates that the need for central bank funding is decreasing and suggests that money market conditions are normalizing. This has also been visible in the euro zone, where the second 1-year tender drew much less demand than the first and demand at the weekly refinancing operation fell to a 6- year low this week. This may persuade the ECB governing council to scale back their longer-term refinancing operations after December, when the next 1-year tender is scheduled. According to the latest official calendar, the ECB does only a plan a 3- month tender in January and no more 6- or 12-month tenders. This should reduce the excess liquidity available in the money market and should start to push money market rates again higher in the course of 2010. In a similar vein, the Norges central bank yesterday signalled that it considers withdrawing lenient collateral rules, which were installed at the height of the financial crisis last year.
Regarding trading today, the rebound on the US equity markets yesterday evening and this morning in Asia keeps the jury out whether the equity rally will continue or some profit-taking is looming. The fate of the equity markets will probably also decide on the direction of the bond markets, which are testing or have fallen below first key support levels.
Regarding the European bond market, the longer-term bullish technical picture of the Bund started to deteriorate last week after it fell below a previous reaction high at 121.74. This was a first warning signal that the underlying sentiment is deteriorating. This week, the Bund also fell below its long-standing uptrend channel, which could now lead to a test of the September lows at 119.85. However, only a fall below the September lows would put an end to the higher high, higher low pattern and suggests that a substantial downward correction is looming.
Regarding the US Treasury market, early October, Treasuries broke key resistance levels, suggesting that another up-leg was in store. However, recent price action has been disappointing and the confirmed drop below the previous high at 118-17+ (TNote future) only confirmed the corrective move. In the cash markets, the re-break above 3.30% (10-year) and 4.15% (30-year) confirmed the technical picture of the futures. A break below 117-19 would be an additional sign that sentiment is deterioration.
In the UK, all eyes are on the third quarter GDP data. It will be interesting to see whether the UK has technically climbed out of recession after five quarters of negative growth. The first estimate is expected to show an expansion by 0.2% Q/Q after contracting by 0.6% Q/Q in the second quarter, but if GDP would show the sixth consecutive contraction, markets might react disappointed.
