German bonds rallied in earnest yesterday, and the curve bull-flattened, as weak economic data and more geopolitical tensions boosted bonds. The 10-year yield hit a new record low just below 1.10%, and ended the day lower by almost 7bp. The fall in yields was more moderate in the US, and the 10-year yield closed lower by around a bp.
Core bonds are set to remain supported today, but a small correction higher in yields is likely to be seen in the afternoon after the ECB. In the bigger picture, the German 10-year yield is still heading towards 1%, and could easily fall below this level in the weeks to come.
Intra-Euro-zone spreads widened in earnest, as Italian GDP numbers showed the country had slipped back to recession (see more below). The Italian 10-year spread vs Germany jumped by 13bp, while Portuguese and Greek bonds saw even more pressure. The recent moves are a further illustration that the volatility in spreads has increased, but should still not be seen as much more than profit taking after a huge rally. However, this profit taking is likely to have some more to run in the near term.
European equities took another beating of close to 1% (Italian equities slumped by almost 3% and Portuguese ones by more than 4%). In the US, S&P 500 fared better, ending the day close to flat. Asian markets are trading lower this morning, though the moves have not been huge, while European markets are set to open roughly flat. Equity markets should face more downside pressure in the near term.
And the loser is .. Italy
Italian Q2 GDP numbers disappointed big time. The economy contracted by 0.2% q/q after a 0.1% contraction in Q1 (growth of 0.1% was expected), meaning the economy is now back in recession. Actually, the Italian economy has contracted in all but one of the past twelve quarters. The weak Italian performance marks quite a difference to e.g. Spain, which has seen four straight quarters of growth (0.6% q/q in Q2).
The poor Italian numbers, coupled with weak German factory orders, raise more questions about the sustainability of the Euro-zone recovery, and illustrate that at best the recovery will be uneven and moderate.
Russian sanctions and troop movements eyed
Russia is set to announce a detailed list of goods – likely mostly agricultural – that it intends to target in its counter-sanctions in the form of import bans from the EU and the US today. The detailed list is unlikely to contain big market-moving surprises, and news on possible movements of Russian troops near the Ukrainian border has more potential to affect flight-to-quality flows.
ECB and BoE to refrain from breaking news
No new measures or monetary policy signals should be expected from the ECB at the August meeting as the threshold for further near-term easing is very high. The message is thus not set to move long yields much from the record-low levels, while the ECB should be happy with the recent weakening of the euro. With no new easing measures in store and yields at rock-bottom levels, odds are in favour of a small correction higher in core yields. The ECB will release its interest rate decision at 13:45 CET, while the press conference is set to start at 14:30 CET.
The Bank of England, in turn, is already seeing pressure to start to tighten policy, and some disagreements within the Monetary Policy Committee could emerge soon. However, as no statement will accompany a decision of unchanged policy, today’s announcement at 13:00 CET should be a non-event.
In terms of economic data, German June industrial production will be out at 8:00 CET and US weekly jobless claims at 14:30 CET.
On the issuance front, Spain will re-open bonds maturing in 2010 and 2024 for a combined EUR 2 to 3bn.
Nordea