Core bonds initially rallied in earnest yesterday and curves bull-flattened, supported by weaker risk appetite and flight-to-safety flows as well as disappointing Euro-zone economic data. The German 10-year yield fell below 1.20% to only around 5bp above the record lows reached in 2012. The fall in yields moderated a bit towards the evening, and the German 10-year yield ended the day down by some 3bp at around 1.20%. The US 10-year yield fell a bit less.
Bonds outside the Euro-zone semi-core continued to take a beating, led by Portugal, which saw its 10-year yield jump by more than 20bp. The Portuguese yield has now leapt by around 40bp in three days, and is more than 70bp higher compared to the June lows. These markets have not stabilized yet, so the time for establishing new spread-narrowing positions is not here yet.
Equities felt pressure, again led by Portugal, which saw its equity markets take a loss of almost 4%. The wider European markets suffered by around 1%, while in the US, S&P 500 managed to limit losses to 0.41%, as prices rose after the negative open. Losses have also been rather contained in Asian markets overnight, and Europe is set to open slightly higher.
With a lot of uncertainty still in the air, not least relating to the situation in Portugal and the geopolitical tensions ongoing in many parts of the world, and the weekend approaching, core bonds are set to remain supported, and no bigger rebound higher in yields is not on the cards yet.
Portuguese worries rattle markets – new debt crisis still not at hand
The market reaction from the past few days brings back some memories of the Euro-zone debt crisis, when problems in a small country caused jitters across markets. However, there are plenty of reasons to argue, why this is not the start of a new crisis. Both Euro-zone non-core bonds and equities in general have a huge rally behind them, so it is not hard to argue that a correction and an episode of profit taking were overdue. This time the trigger for that appears to have been uncertainty about the Q2 earnings season as well as worries toward the Portuguese banking sector, coupled with increased geopolitical tensions.
There is no doubt that a lot of negative news is still lurking around the corner, and the Portuguese situation is far from resolved, but the markets have become much more resilient towards negative news compared to just a couple of years ago. As a result, even though market jitters may have some more to run in the very near future, there is still little reason to doubt that the recent events would mark a reversal in the trend of more positive risk appetite. Another major general sell-off in non-core Euro-zone bonds is not on the cards for now.
Euro-zone inflation continues to surprise to the downside
French June inflation numbers were the latest illustration of the weak momentum in Euro-zone inflation numbers. The EU-harmonized measure fell from 0.8% y/y to 0.6%, clearly below forecasts and the lowest level since late 2009. Euro-zone inflation numbers thus continue to be very soft, and with risks still tilted towards the downside, the ECB will watch these numbers with a lot of concerns.
More national industrial production numbers, in turn, strengthened the view that May was a bad month for the industry. Following the 1.8 % m/m contraction reported in Germany earlier, French production slumped by 1.7% m/m, Italian numbers by 1.2% m/m and the Dutch output by 1.9% m/m. If production for the Euro zone as a whole shows a drop of similar magnitude, it will be the weakest monthly performance in more than 1.5 years.
New Greek 3-year bond issue disappoints – not so easy to return to markets
Yesterday’s 3-year bond launch from Greece could not produce anything like the EUR 20bn order book of the earlier new 5-year bond. The yield for the 3-year bond was fixed at 3.5%, while the order books were reported to have amounted to only around EUR 3bn. The issue size was a modest EUR 1.5bn.
Such demand was certainly disappointing after the strong 5-year launch in April. The 5-year issue had a lot of scarcity value, while this second was already a reminder that Greece intends to issue much more going forward. The 3-year launch was also a good illustration that it is not that easy to return to markets with the track record Greece has. However, the demand was no doubt dented by the adverse market conditions due to what is going on in Portugal and the generally widening spreads.
Final inflation numbers and Italian supply ahead
Today’s calendar looks rather light. In terms of economic data, final German inflation numbers for June will be out at 8:00 CET, but revisions are very rare. Spain will release its final numbers at 9:00 CET. In addition, the ECB will announce the latest 3-year LTRO repayment data and the Bank of England will publish its consultation paper on the leverage ratio at 12:00 CET, while the Fed’s Lockhart, Evans and Plosser will speak at 20:45 CET.
On the ratings front, Standard & Poor’s has a chance to review its rating on Germany (AAA, stable), Moody’s on the European Union (Aaa, stable) and Fitch on the Netherlands (AAA, negative).
In corporate earnings, Wells Fargo will start the Q2 earnings season for US banks at 14:00 CET.
On the supply front, Italy will sell 3-year bonds for EUR 2.5 to 3bn, 7-year bonds for EUR 2 to 2.5bn and 15-year bonds for EUR 1.5 to 2bn.
Nordea