Political uncertainties still drive of EMU bond markets

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Political uncertainties still drive of EMU bond markets

Yesterday, global core bonds gained modestly ground with German Bunds outperforming US Treasuries. Bund gains were out of proportion given yesterday’s events, but are probably related to election uncertainty in France. The Bund ignored a strong German IFO. On EMU bond markets, yields declined with France initially underperforming. However in late afternoon, Bayrou offered an alliance to Macron in the presidential race to stop Le Pen, suggesting he is not running for president. This increases the presidential chances of the centrist Macron and diminishes those of Le Pen. On the news, German-French yield spreads declined, the Bund returned some of its gains and the euro reversed losses versus the dollar. These moves suggest that political uncertainty was the main trading driver yesterday, even as Bund gains might have been out of proportion also for technical reasons. Finally, bond auctions included a horrible 30-yr Bund, a strong 15-yr Spanish syndication and a soft 5-yr US Note. Oil prices lost $1/barrel and supported bonds at the margin. In a daily perspective, the German yield curve shifted 2.1 bps (2-yr) to 3.3 bps (5-yr) lower. US yields dropped up to 1.6 bps, slightly helped by the FOMC Minutes. On intra EMU-bond markets, 10-year yield spread changes versus Germany ranged between -4 bps and -6 bps with Spain and Greece lagging.

Thin calendar with ECB Praet & Fed Kaplan wildcards?

The euro area eco data are second tier (final Q4 German GDP, French INSEE business confidence and Italian retail sales). Also US economic data have only minor potential market impact. We listen closely to the speech of ECB Praet, especially as tensions inside euro area markets flare up amid political uncertainty. Will he give some comments on the deviation of the capital key as measure for sovereign bond purchases as mentioned in the latest ECB meeting accounts? Atlanta Fed Lockhart retires at the end of the month and is unlikely to speak about the policy outlook. Dallas Fed Kaplan is a moderate hawk and last said “we should be removing accommodation sooner rather than later.”

FOMC Minutes: Too early to act?

The FOMC Minutes said that many FOMC voting members “continued to see only a modest risk of a scenario in which the unemployment rate would substantially undershoot its longer-run level and inflation pressures would increase significantly”. “Most participants”, meaning a majority, continued to see “heightened uncertainty” around the size, timing and composition of fiscal and other government policies and their impact on the economy. “They thought some time would likely be required for the outlook to become clearer”. Many Fed officials see a hike as being appropriate "fairly soon", but this does not necessarily imply March. While the situation changed in the meantime with stronger growth and somewhat higher inflation, it looks that it is still too early to hike rates in March, unless there would be a huge surprise from the payrolls report. The Fed doesn’t feel they are behind the curve, they still see risks and are unsure about the fiscal plans. These are arguments to wait for somewhat longer, maybe the May or June meeting, before increasing rates. The market implied probability of a March hike stands at 34%, which is too low to hike if the Fed doesn’t want to surprise. US Treasuries gained some ground and the dollar weakened a tad upon the release.

Slightly disappointing 5-yr Note auction

The US Treasury continued its end-of-month refinancing operation with a mixed $13 2-yr FRN and a slightly disappointing $34B 5-yr Note auctions. The latter stopped slightly above the 1:00 PM bid side and the auction bid cover (2.29) was the smallest since July. Bidding details showed a good direct bid, but disappointing indirect and dealer bids. Today, the Treasury ends its supply operation with a $28B 7-yr Note auction. Currently, the WI trades at 2.23%.

Sting out of French election fever short term?

Overnight, most Asian stock markets trade slightly lower, but sentiment isn’t really risk-off. The US Note future and Brent crude stabilize, suggesting a neutral opening for the Bund.

Today’s eco calendar is thin with only weekly jobless claims. Speeches by ECB Praet, Fed Lockhart and Fed Kaplan are wildcards for trading. Core bond trading will likely remain technically and sentiment-driven. Bayrou’s support to Macron might take the sting out of French presidential election fever short term and give the Bund some relief after yesterday’s astonishing rally, which ended with a failed test of 165.48 resistance (62% retracement of Oct-Dec decline). On intra-EMU bond markets, it could trigger some spread narrowing as also short-term developments in Greece are advantageous.

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