Core bonds find some vigor
Core bonds ended a five-day selling streak yesterday in a rather uneventful trading session. German Bunds outperformed US Treasuries. US stock markets extended their positive run with laggards (oil companies, Boeing) catching up. European risk sentiment was more mixed. Brent crude tumbled back from $43/b to $40/b after Saudi Arabia announced that its additional production curbs wouldn't be extended beyond June. The US Treasury started its mid-month refinancing operation with a strong $44bn 3-yr Note auction. It stopped through the 1pm bid with an above average bid cover. The German yield curve bull flattened with yields decreasing by 2.1 bps (2-yr) to 5.3 bps (30-yr). 10-yr yield spread changes vs Germany widened by up to 3 bps with Greece (+11 bps) underperforming.
Most Asian stock markets trade positive this morning with Japan (stronger yen) and South Korea (North Korea cut communications) underperforming. Core bonds show more signs of resilience after last week's sell-off.
Today's eco calendar remains razor thin with only US NFIB Small Business Optimism. The US Treasury continues its supply operation with a 10-yr Note auction. US supply could trigger underperformance of US Treasuries vs German Bunds. Overall, investors are counting down to tomorrow's FOMC meeting. The Fed's ultra-easy monetary policy stance and willingness to add stimulus if necessary could help explain investor's preference for UST's at the start of this trading week. Fed Chair Powell categorically ruled out introducing negative policy rates in a next move, but the Fed supposedly is studying the Australian RBA's model of targeting the 3-yr yield at the same level of the policy rate (0.25%). We argued before that the Fed's unlimited, open-ended QE programme is the de facto start of yield curve control. By targeting specific levels, the Fed would strengthen its promise of keeping policy rates near the lower bound for quite some time to come. It's unclear whether the US central bank is also exploring the Japanese option of also targeting the longer end of the curve. A decision on the issue isn't expected tomorrow, but could come as soon as September.
Technically, a break of the German 10-yr yield north of -0.31%/-0.29% resistance, would suggest a return to the YTD high at -0.14%. The US 10-yr yield exited the narrow trend channel of the past two months on the upside. Next resistance is the psychological 1% mark. Ahead of the Fed, some return action lower is likely despite the US supply operation.
Author
KBC Market Research Desk
KBC Bank
