Markets: Rates


On Wednesday, global core bonds managed to avoid additional losses in a volatile trading session. Bonds were supported by weak eco data in EMU and US. However, equities still moved higher restraining gains for US Treasuries and keeping German yields close to Tuesday’s closing levels. In a daily perspective, German yields were less than 1 bp from previous closing levels. In the US, yields fell between 0.8 and 3.9 bps. All in all, the consolidation was always expected to happen, but the inability to eke out gains (Bund) or only moderate gains (US) calls for cautiousness regarding the upside potential. US eco releases and multiple Fed speakers may tell us whether the consolidation was a first step towards improvement or whether the bears are still in the driver’s seat.


Intraday, the Bund opened little changed, but was positively oriented during much of the morning session helped by weak EMU eco data. These are a bit outdated, but were nevertheless worth a “rebound”, especially following steep losses in the past two weeks. However, gains evaporated as fast as they came even before US traders joined the fray. The BoE inflation report may have played a role. It upgraded growth and downgraded inflation forecasts, suggesting the MPC may keep its policy unchanged for the time being. Another up-leg occurred in early US trading when US eco data (NY Fed survey/production) disappointed.
 However, once more it missed conviction and erosion occurred, even before equities started to rally. The latter directed core bonds again towards opening levels. A temporary weakening of equities in later trading pushed US Treasuries to small daily gains in the close.


On intra-EMU bond markets, there was a big outperformance of Greece following the Fitch rating upgrade. The Greek 10-yr yield dropped to the lowest level since 2010. Spanish/Italian spreads were close to unchanged, apart from the very long end of the yield curve following the successful launch of a new 30-yr BTP (see below). In Spain, there is rising pressure from the BoS on lenders to write down the value of their €200B portfolio of restructured loans to troubled companies and struggling households, the FT reports. There is no impact on Spanish bonds however. Finally, the IMF approved a €1B loan to Cyprus, as part of the broader €10B rescue package.


Today, the market calendar is interesting as it contains some key US eco releases like Housing starts, initial claims, Philly Fed survey and CPI. In EMU, the core CPI reading for April is worth looking at. Beside these, five Fed governors take the stage. The main interest of markets will be their views about the fate of the asset purchase programme.


Regarding the US eco releases. Initial claims have declined in each of the past three weeks, each time against expectations. They are now at their lowest level since January 2008. The market now expects a slight increase by 7K to 330K.
 Another surprise on the downside shouldn’t go unnoticed, while some higher than expected outcome will probably be taken into stride, if it is limited.
Housing starts and permits are volatile from month to month, but throughout ups and downs are steadily moving higher. Following a big rise in March to 1036K, markets expect a decline to 973K in April. For permits, the opposite is expected (rise to 941K from 902K in March). The Philly Fed manufacturing index is expected to have broadly stabilized (2.1 from 1.3) near levels that indicate little to no growth. The NY Fed survey disappointed and pushed the headline index into contraction area. Another negative surprise in the Philly Fed would probably have impact on markets, as it would suggest that national ISM may drop below the 50 boom/bust level. The CPI report will get less attention. In EMU, the final HICP report for April will be published. The headline figure will probably confirm the flash estimate of 1.2% Y/Y, but the core measure brings new info. Markets expects a stable 1% Y/Y outcome. Given de very weak economic environment, a drop below 1% might not go unnoticed and revive some deflation fears. It might also make the ECB a bit nervous, as the core is moving ever further away from the 2% Y/Y target (for the headline).


Following a WSJ article of Fed watcher Hilsenrath of last week-end, markets attention will be fully on Fed speakers this week. Hilsenrath didn’t suggest the Fed was near starting the tapering of its QE tapering, but he said that Fed officials had convened a QE strategy in which they planned to reduce the amounts of bond buying in careful way, by using eventually uneven steps and sometimes stop the tapering. In this way, it will try to manage market expectations. Fed Plosser unveiled his thoughts earlier this week. He favours slowing asset purchases from after the June FOMC meeting onwards and if his unemployment expectations for the end of the year are correct, purchases may be stopped. Today, we listen to views of Rosengren (dove), Williams (dove), Raskin (moderate dove) and Fisher (hawk).


Yesterday, the German Finanzagentur launched a new 2-yr Schatz (€5B 0.00% Jun2015). The auction met with good demand. Total bids amounted to €8.61B, compared to an average of €7.63B at this year’s (4) previous Schatz auctions.
The Bundesbank set aside €0.771B of the allotted volume (15.5%), in line with an average of 15% this year. The Italian treasury launched a new 30-yr benchmark BTP (€6B 4.75% Sep2044) via syndication. It was the first new 30-yr benchmark since September 2009. The auction met with strong demand and an order book in excess of €12B. The bond was priced to yield 13 bps over the previous benchmark (2040), tighter than initial price thoughts (BTP + mid teens) and official price guidance (BTP + 13/15 bps).


Today, the French debt agency concludes this week’s scheduled EMU bond issuance. They tap the on the run 2-yr BTAN (0.25% Nov2015), the off the run 15-yr OAT (3.75% Apr2017) and the on the run 5-yr BTAN (1% May2018) for a combined €7-8B. Additionally, they’ll raise €0.8-1.2B via inflation-linked bonds.
The bonds cheapened around 5 bps in ASW spread terms going into this auction. Compared to surrounding bonds, they trade normal. As usual though, we expect the French auction to pass without difficulties.


Regarding trading today, Asian equities trade mixed with China outperforming. The Bund opens little changed and the EUR/USD is a bit lower. We retain from yesterday’s session that global core bonds ended little changed in a session dominated by weak eco data and rather constructive equities. One may discuss whether the glass was half full or half empty. It was maybe a bit disappointing as the weaker eco data could push bonds higher, but otherwise, especially for US Treasuries it was the first session since the payrolls release early May that with gains closed.
German bonds are already consolidating since the start of the week.


The eco data and the Fed speakers are two nice items that may affect markets. We have no strong view on the eco data, but another day of weak data should be beneficial for bonds and might lead to a correction in equities. From the Fed, we expect only a start of the exit policy (asset purchases) at the September meeting, but rumours go that at the June meeting the strategy will be refined. Should the doves that speak today point to an earlier than expected tapering, which we doubt with the exception of the Fed Williams who in the past already suggested that tapering may start in the not too distant future, equities may correct lower, supporting core bonds (for which tapering is in fact intrinsically a negative).


From a market technical point of view, following recent sell-off, core bonds are near ST oversold territory and the opposite is true for equities. In this context, we think that near term some consolidation may have started and continue today. The US T-Note future (ST bearish picture) approaches key support at 131-06 (62% retracement). To make the picture again neutral sustained trade above 132-10+ is needed. A sell-on-upticks in this range 131-06 to 132-10 is favoured short term. The US 10-year yield has major resistance at 2.08%, a level that may be tested short term, but should hold on a first attack. The technical picture of the Bund is still less damaged. The 38% retracement ( 144.26) has just been ticked yesterday, but we would like to see a break below 143.96 (March 4 high) to change our assessment. Sustained trade above 144.93 is needed to call off the red alert.


T - Note Future


Re-iterating our early week view: “ We think that short term, the core bonds may digest last week’s losses, especially as also equities might need to digest the gains. However, in a longer term perspective, bonds may lose further ground. For the Bund, a drop below above mentioned supports would signal that more losses are in store.”