The German Finanzagentur taps the on the run 10-yr Bund

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On Tuesday, core bond markets faced more volatility (mixed US eco data), but traded with a downward bias (strong equities). The moves remain technically irrelevant though ahead of tonight’s FOMC decision. The Bund for example trades sideways between 150 and 151 since the start of the previous week. At the end of the session, German yield changes were small, ranging between -0.3 bps and +0.8 bps. In the US, the curve bear steepens with up until the 10-yr sector with yields 1.2 bps (2-yr) to 3.6 bps (10-yr) higher. The 30-yr yield added 3.1 bps. On intra-EMU bond markets, 10-yr yield spread changes versus Germany range between flat and -7 bps (Greece). The EC decided not to send the French and Italian budgets back to their governments for big revisions, after both agreed to additional fiscal tightening measures.

Today, the focus will be on the FOMC meeting especially as the eco calendar in thin, both in the US and Europe. Only the Belgian Q3 GDP data might be interesting, while the ECB publishes its Bank Lending Survey. Germany (Bund), Sweden (Bonds) and the US (5Yr Notes & 2Yr FRN) tap the market.

Belgian GDP is often seen as a good pointer for the euro zone reading due to its early publication and its close relation to Germany. In the second quarter, the Belgian economy grew by only 0.1% Q/Q, marginally stronger than the euro area, where the economy came to standstill. There is no consensus available for Q3, but we believe that growth probably remained poor with even a stagnation of limited contraction not excluded. The Russian sanctions hit also Belgium, while the deterioration in consumer sentiment might weigh on personal spending. Regarding the ECB’s Bank Lending Survey, the Q2 report showed the first easing in credit conditions since 2007, although remaining well below historical averages. Also demand for credit was positive and a further increase in demand was expected for Q3. It will be interesting to see whether credit conditions improved further in Q3 and if demand continued to improve too. Despite the improvement in both credit conditions and demand, lending data remained however poor.

The German Finanzagentur taps the on the run 10-yr Bund (€4B 1% Aug2024). The relatively low amount on offer should make sure that the auction is covered. Total bids averaged €5.22B at the previous 4 Bund auctions. In the run-up to the auction, the Bund traded stable in ASW-spread terms, but the low yield is absolute terms remains unattractive. Year-to-date, Germany completed around 85% of this year’s funding needs.

In the US, the treasury started its end-of-month refinancing operation with a mixed $29B 2-yr Note auction. The auction stopped through the 1:00 PM bid side but the bid cover was light (3.11 vs 3.38 average this year). Also bidding details were mixed. The indirect bid held up reasonably well, but the dealer bid collapsed. Today, the Treasury continues with a $15B 2-yr FRN auction and a $35B 5-yr Note auction. The 5-yr WI currently trades around 1.515%.

Overnight, Asian equity markets build on WS’s positive momentum, ignoring the negative after-trade reaction on FB earnings (share down 10%). Japanese industrial production data printed stronger and added to positive risk sentiment. The US Note future trades marginally higher though. We can’t draw conclusions from this mixed signals with respect to the Bund opening.

Today, all eyes are on the FOMC meeting. Three scenarios are on the table. The first one, our main scenario, includes ending QE (final $15B taper) and keeping forward guidance unchanged. We believe that markets are positioned for this scenario and attach a 80% probability to it. The effect on US yields should be rather small with next week’s US eco data deciding on the ST faith of Treasuries. The second one, the hawkish scenario (15% probability), combines ending QE with changing the forward guidance (dropping the considerable amount of time phrase). This should put downward pressure on especially short maturity Treasuries with an underperformance of the 5-yr sector. Furthermore, it would be the start of a re-widening of the US/German spreads. The final one, the dovish scenario, contains delaying the end of QE. We think this scenario is the least probable (5%). It would send US yields back to the recent lows.

Technically, the German Bund closed a fourth straight day below the uptrend line since June. This is a first indication that the bull run slows. A sustained drop below 149.91 would change the ST technical picture to neutral. For the US Note future, the upcoming FOMC meeting will decide on the short term faith.