US and Germany tap the market

Rates

Modest downward pressure on bonds continues

In a thinly traded, data-poor Monday session, German bonds came under modest selling pressure mid-morning, which accelerated around noon. The Merkel saying that the euro was too cheap bolstered the single currency, but at the same time triggered more Bund selling. There was also lots of talk of Weidmann replacing Draghi as ECB chief.... in October 2019 when Draghi's term ends, but that looks to be loose talk without much immediate effect. US Treasuries fell slightly in the overnight session to stabilize further out, with a small steepening bias. European equities traded mixed (stronger euro?) with Italy underperforming. US equities did again very well, while oil was slightly up around $54/barrel. It all had only a small impact in a still thinly traded market. Therefore, we shouldn't draw too many conclusions from Yesterday's price action. In a daily perspective, US yields rose a small 1.2 bps (2-yr) to 1.9 bps (10-yr). The German yields rose 0.7 to 3.1 bps, steepening the curve a tad.

 

PMI business sentiment in focus

Attention will focus on US & EMU PMI business sentiment. EMU PMI business sentiment is expected to be marginally lower (in fact to stabilize) in May at 56.7 from 56.8 in April. This is a high level, suggesting healthy growth. We wouldn't be surprised to see a somewhat bigger decline, that would nevertheless still point to strong activity. We acknowledge that the ZEW and the Sentix sentiment surveys improved in April, but they measure investors' sentiment and are strongly linked to the equity markets. Last month's forward looking PMI orders sub-indices were lower for a number of big countries, which points to a decline of the headline index in France and Italy this month. It doesn't concern Germany. Therefore, we see the German IFO go higher again. US service and manufacturing PMI business sentiment declined since the peak in January at 55.6 and 55 respectively. Service sentiment went up slightly last month. We see a modest rebound in both indices.

The Richmond Fed manufacturing index is expected at a still healthy 15 in April from 20 in March, which was close to the cycle highs. We have no strong view on the outcome as two pointers for the Richmond survey differed sharply. The NY Fed survey was surprisingly weak, but the Philly Fed survey surprised on the strong side. US new home sales rose strongly in past months and are a whisker away from cycle highs. After two strong increases, some modest decline wouldn't surprise, but no reason to worry.

 

US and Germany tap the market.

The Belgian government announced a new launch of a syndicated June 2037 OLO (OLO 84). We expect the issue to be priced later today. Germany will launch the Schatz June 2019 for an amount of €5B. The US Treasury starts its monthly financing operation with a $26B 2-yr Note auction. In the When Issued market, the 2-year is trading at 1.285%.

 

More range trading?

Overnight, the risk sentiment is marginally negative. The Manchester terror attack had only a very modest effect on markets. The Japanese PMI fell slightly lower. Asian equities trade mixed ignoring WS good run yesterday. The T-Note is slightly higher, USD/JPY is down, while oil pulls back following an 8 day rally ($53.56/barrel). This suggests the Bund may open fairly well.

Today's market calendar is busy. The EMU PMI's will remain promising, but a slight weakening from high levels is possible. However, a stronger IFO may offset an eventual disappointment. The US eco data may be on the positive side with stronger PMI's, strong New Home sales, even as it may show a slight erosion. The Greek deal wasn't concluded due to ongoing differences between IMF and Germany on debt relief. This is a positive for core bonds. The time slot to find an agreement before Greece has to pay about €7B of maturing bonds is becoming tight. We expect Greece to underperform.

Even as the data and fresh supply may on the margin be bond unfriendly, we think that core bonds may do better than in recent days on a softer risk sentiment. However, it is expected to remain essentially a range-trading session. We expect the Bund to stay in a range we define between 160 (recent sell-off low) and 162.15/49 (recent highs/gap) with risks for a test of the downside.

The US Note future tested the contract high (126-20) last week (2.16% support for US 10-yr yield), but a break higher didn't occur. Once the dust settles, we would use those levels to enter new short position, given that we're on the brink of another Fed rate hike and sentiment is again on the mend.

 

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