Caution Into EU Summit
The first EU Summit of 2012 has been greeted with a decidedly less optimistic tone than last week. After Fitch downgraded five Eurozone sovereigns on Friday night, the Italian treasury sold a total of EUR 7.5 bn worth of bonds, near the top of estimates. While the yields were down from the last auctions our fixed income strategists were slightly disappointed by the results. They note that 5Y came quite cheap relative to market expectations, while the bid/cover on the 5Y was also close to historical lows. Risk assets were under pressure before the auction however ahead of the summit. The objective is to finalise two texts: the new fiscal compact, and the treaty changes required to introduce the ESM rescue vehicle. Talks on the Greek bond swap made further progress over the weekend, and we expect a positive outcome in a matter of days. Despite the latest positive news flow we remain intensely cautious on the euro’s prospects in the run-up to the March 20 Greek bond redemption. Already new hurdles to a second financial rescue are appearing. Over the weekend press reports surfaced on German plans for greater surveillance over Greece’s fiscal affairs. The fact that such proposals are even under discussion indicates that official sponsors are extremely wary of Greece’s ability to bring its debt down to sustainable levels. The proposals have already met a frosty response in Greece and the controversy indicates how difficult it will be to reach a final agreement on the second rescue even if a bond swap deal is ultimately reached on a voluntary basis. With the euro having already rallied six big figures from the lows, we remain on alert for opportunities to enter fresh shorts. The US is due to release the core PCE report – a metric which has suddenly risen in importance after the Fed’s adoption of an inflation target based specifically on this measure.
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UBS Investment Bank