Bund sells off in risk-off climate

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Bund sells off in risk-off climate

Global core bonds lost ground yesterday with German Bunds significantly underperforming US Treasuries. US Treasuries escaped the sell-off as US Senate Republicans seem to be willing to delay tax reforms into next year. The overall disappointing performance of core bonds was at odds with risk aversion on European stock markets (follow-up on Tuesday’s bearish engulfing and yesterday’s Asian volatility), peripheral bond markets and, to a lesser extent, FX markets. US indices opened on a weak footing and, but managed to erase most of the additional intraday losses into the close. The eco calendar, central bank speeches and events provided less of an explanation for yesterday’s Bund weakness. Technical factors offered an explanation, but it goes a long way to exclusively pinpoint yesterday’s move to failed tests of support levels in the German 5-yr yield (-0.4%) and 10-yr yield (+0.3%).

The US Treasury concluded its refinancing operation with a mixed $15 bn 30-yr Bond auction. The auction stopped through the 1:00 PM bid side and the bid cover was a little bit weak. Bidding details were very average.

At the end of the day, the German yield curve bear steepened with yields 1 bp (2-yr) to 6.1 bps (30-yr) higher. The US yield curve steepened as well with yield changes ranging between -1.1 bp (2-yr) and +2.4 bps (30-yr). On intra-EMU bond markets, 10-yr yield spread changes versus Germany widened up to 2 bps.
Very thin eco calendar

Today’s eco calendar remains uninspiring with only University of Michigan consumer confidence for November. Consensus expects a small increase in both the headline, from 100.7 to 100.9, and expectations, from 90.5 to 91, components of the report. Both indices trade near/at decade-highs. ECB Mersch is scheduled to speak, but probably won’t touch on monetary policy.

Unusual correlation unlikely to hold

Asian stock markets trade mixed currently with China outperforming (+0.5%) and Japan underperforming (-0.8%). There’s no continuation of yesterday’s sudden volatility which triggered an equity correction. The US Note future cedes some ground, suggesting a weaker opening for the Bund as well.

Today’s eco calendar remains uninspiring. We expect trading to be sentiment-driven and technical in nature. Tensions on Asian stock markets eased overnight, but we think that the equity correction has further to go from a technical point of view. If so, it remains a strange combination to see both core bonds and stocks sell-off simultaneously. The end of the refinancing operation, doubts on US tax reforms and the weekend ahead generally favour some cautiousness as well. While recent moves on core bond markets fit in our sell-on-upticks strategy, we don’t take it for granted yet that the core bond sell-off will continue at yesterday’s pace.

We have a longer term US Treasury negative bias and would short the Note future for return action towards the 124-06 low. Also for the Bund we favour a sell-on-upticks (around 163.43), targeting 160.24. Support levels in yield terms played their role (German 5y: -0.4%, 10y: 0.3%). Underlying growth momentum remains very strong in EMU and warrants higher (LT) rates.

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