The Spanish Treasury sells the on the run 3-yr Bono (0.5% Oct2017)

Rates

Yesterday’s focal point of trading wasn’t on the bond market but on currency markets (see below). Both the German Bund and the US Note future traded in thin, sideways ranges ignoring eco data. As of late, these showed again a big divergence between the EMU and US. The final revision to the EMU services PMI and national data were generally weak while US ADP employment and non-manufacturing ISM remained strong. At the end of the session, changes on the German yield curve ranged between -1.5 bps (5-yr) and +1.7 bps (30-yr). In the US, the curve flattened with short rates up to 2.2 bps higher and the very long end of the curve 2.7 bps lower.

After European trading, the Fed’s Beige Book was more upbeat. The summary said “Employment gains were widespread across Districts, and Districts reported generally some improvement in business spending." Philly Fed Plosser, known hawk, echoed comments by Dudley and Fischer that a lower oil price is good news for the economy and that we shouldn’t worry about temporary lower inflation. He added that “the economy has come a long way, and monetary policy should reflect such progress.” Despite the upbeat Beige Book and hawkish Fed speech, there was no additional sellingnpressure in the US. Overnight, Dallas Fed Fisher, also hawk, said that the gap between doves and hawks on the FOMC board somewhat disappeared (proven by this week’s Dudley speech?).
Fisher also floated the idea for the Fed to stop reinvesting maturing bonds from its bond portfolio: “It would do no harm to start slowly trimming our holdings by letting them roll off as they mature”. Such propositions doesn’t imply any rush to raise rates, he added. In October, the Fed decided not to do so until after it begins raising rates. Fisher seems to be alone/in the minority on this front. We think the governor just wanted to cast his own views one last time. The Dallas Fed governor plans to retire in March 2015.

Today, the focus will be on the ECB meeting, while also the Bank of England decides on rates. The eco calendar is thin with only US jobless claims, while in the US, also Fed Mester and Brainard are scheduled to speak. Spain (Bono & Obligacion) and France (OAT) tap the market.

Last week, US initial jobless claims rose sharply, to the highest level since the first week of September. A drop is expected for the last week of November. The consensus is looking for a decline from 313 000 to 295 000. Last week, claims were probably distorted due to special factors. Nevertheless also this week’s data will probably remain volatile as the week under review included Thanksgiving and Black Friday, which might continue to distort the data.

The Spanish Treasury sells the on the run 3-yr Bono (0.5% Oct2017), 5-yr Bono (1.4% Jan2020) and 10-yr Obligacion (2.75% Oct2024) for a combined €2.5-3.5B. After this auction, we think that Spain is fully funded for the year. The auction size is relatively small and should be easy to digest for investors. The bonds didn’t cheapen in ASW spread terms going into the auction. The Jan2020 but especially Oct2024 bond trades rather rich on the Spanish curve. The French debt agency taps three off the run OAT’s (1.75% May2023; 6% Oct2025; 2.75% Oct2027) for a combined €3-4B. This auction is very small in size in order to finalize this year’s funding. We don’t expect difficulties at all.

Overnight Asian equities trade positive with Chinese stocks significantly outperforming (2% to 4% gains). The US Note future moves sideways in a thin range, suggesting a neutral opening for the Bund.

Today’s main event is the ECB meeting. Following dovish comments by Draghi and other governors, bond markets further discounted additional easing (sovereign bond buying). EMU bond yields trade at/near all-time lows. We don’t think that the ECB will announce more QE today. Comments indicated that the current programmes will be evaluated early 2015. Draghi will nevertheless remain very dovish. PMI’s disappointed and EMU CPI dropped again (to 0.3% Y/Y). Regarding the market reaction, there could be a small disappointment that there is no immediate additional easing but we expect any uptick in EMU rates to be short-lived.

The technical picture in the US remains interesting as well. We signalled last week that US yields broke below 1.55% (5-yr), 2.27% (10-yr) and 3% (30-yr).
On Tuesday, this (false?) break was undone. We wouldn’t cry victory yet and wait for the outcome of Friday’s (payrolls). If we remain above the mentioned levels, the downside in yield terms becomes better protected in the run-up to the December FOMC meeting. Given recent Fed speak, we wouldn’t be surprised if the Fed holds on to its “dots” (median Fed forecast end of 2015: 1.375%) and/or even scraps the “considerable time” from the forward guidance.