EU RATES ROUNDUP: Earn Carry Over Summer; Medium-Term Bearish
(Bloomberg) -- Analysts maintain medium-term bearish views on duration, though favor earning carry over summer months.
- Both Barclays and Morgan Stanley argue Spain 10s30s looks steep compared to Italy and France
- In the U.K., Deutsche Bank and JPMorgan recommend fading the likelihood of BOE rate hikes near- term
JPMorgan (strategists including Gianluca Salford)
- ECB meeting to set the stage for Sept. announcement on QE pace reduction; expect market to range-trade during the next few weeks, focus on relative value and long-term carry-efficient bearish trades; medium term continue to call higher long-dated core and especially peripheral yields
- Continue to hold tactical longs in 2Y Germany, keep 10s30s steepeners as bearish duration carry-efficient proxy; in RV, prefer ex-Italy periphery and SSAs over core countries
- Keep money market steepeners in Dec. 2018/March 2019 and Dec. 2018/Dec. 2019 ECB OIS curve, but receive March 2018 ECB OIS
- In the U.K., expect market focus to shift from monetary policy to Brexit this week as second round of negotiations commence; bar for a BOE rate hike this year is relatively high and hold longs in Nov. 2017 MPC OIS
BofAML (strategists including Ralf Preusser)
- ECB will remove easing bias QE, insist on the need for prudence and persistent monetary stimulus
- Positive carry, low supply, high index extensions and lack of risk events in the summer (with any decision on tapering not expected until Sept./Oct.) have all been supporting long positions in the periphery
- Reiterate recommendations to hedge for surprise widening in spreads over coming months through carry-efficient positions such as long 10y swap spreads, short the belly of the 5s10s30s BTP fly and 30s50s BTP flattener
- In the U.K., curve flattening influences are approaching for gilts; July coupon payments are skewed to the long end, sizable index extension caused by the 1.25% 2018 gilt dropping under 1y maturity, and GBP10.1b of BOE buybacks that will result from the August, September redemptions
Deutsche Bank (strategists including Francis Yared)
- Don’t expect any significant changes by the ECB, maintain current view on sequencing given the significant move in the euro exchange rate and indicate a decision on tapering for the Sept. meeting
- Various term-premium measures in euro rates market have normalized during latest sell-off; 5s10s30s fly is now more aligned with the level of rates, exit paid position in the belly of the 5s10s30s fly
- Add a EUR 10s30s flattener given rich valuations; see 10y20y rates as too high relative to 5y5y rates and EUR 30s50s curve is very flat compared to the EUR 10s30s curve; suggests impact of flow keeping 10s30s curve excessively steep
- In the U.K., with ~60% chance of a hike priced for year end, risk reward favors fading BOE repricing; recommend receiving Nov. 2017 MPC Sonia vs Jan. 2018 Fed Funds (current 93bps, target 110bps, stop 85bps)
SocGen (strategists including Adam Kurpiel)
- While the core scenario is for higher euro rates in the medium- term, this trend looks shaky on a shorter time frame; prefer holding carry strategies over coming months
- Favors leveraged roll-down strategies in EUR vol, with the belly of the curve to find support from falling headline inflation in late 2017, though the drop will be limited given upbeat economic picture
- Also like owning 5y BTP vs Bund for carry and roll, offering 9bp/3-month reward: MORE
Barclays (strategist including Cagdas Aksu)
- If Draghi reinforces Sintra speech without any policy/text changes on June 20, he may suggest during the Q&A the Sept. meeting could be seen as an opportunity for policy reassessment; in the current environment, this would be perceived as a bearish signal
- Maintain bearish expressions in rates, such as the reds/greens EONIA steepener and short May 18 EONIA trades
- Spanish 10s30s ASW term structure is far steeper than that of Italy and France, see room credit-term structure flattening as Spanish credit risk should be in between France and Italy; recommend going long Spain 30y ASW on the 10s30s ASW box in Spain
BNP (strategists including Eric Oynoyan)
- Now the bulk of monthly supply has been completed in core markets, expect the tone to stay positive until the end of July, before selling pressure resumes in August; offers the opportunity to enter or reinforce short positioning
- ECB is unlikely to sound too hawkish; recent repricing has been strong enough to prevent the central bank from adding weight in the near term, expect the ECB to be more vocal in Sept
- Hold outright hurt in 5y Germany, entered at -0.395%, current -0.205%, target -0.10%
- Front-end is now priced for a 10bps depo rate hike on a one-year horizon, which looks "very aggressive", as it implies a rate hike before the end of QE
- While 2y forward 1-month OIS prices in a depo rate of -0.05% by mid-2019, which seems too dovish, leaving 1s2s section too flat; keep paying in 1y1y OIS, entered at -0.20%, current -0.17%, target 0%
Morgan Stanley (strategists including Anton Heese)
- While bond-market indicators have turned bearish on 10y Bunds, turn neutral on duration and close short 10y Bund vs UST given risk Draghi says the ECB see no signs yet of underlying inflation rising, leading investors to conclude they misinterpreted the Sintra speech
- View remains that 3-5y real yields are likely to remain well anchored; ECB only likely to accelerate the pace of policy normalization if inflation dynamics strengthen
- Makes sense to earn carry and recommend being long 3-5y BTPeis on real yield, given their considerable carry and roll
- Continue to hold BTP 10s30s flattener with a 25% long in 10y to position for credit curve extension and for core curve flattening
- Reiterate Spain 10s30s flattener on an outright basis as the Spanish curve has been trading steeper than the Italian or French curves, despite falling long-end supply for 2H 2018
Citigroup (strategists including Harvinder Sian)
- Bond market take-away from July ECB should be a reinforcement of Draghi’s signal of exit, a change in the reaction function; read across is bearish, taking bonds closer to levels where buying becomes attractive
- Based on the newly issued 10yr Bund benchmark, buy level is 0.68% and above; these levels would constitute excessive cheapness
- July has typically been supportive for fixed income, with 10y Bunds tending to rally ~14bp on average over recent years as supply turns negative; net cash requirement for EGBs on aggregate falls to -EU121b (gross supply – coupons/redemptions/QE)
- Next major move in gilt/bund is likely to be to even tighter levels, reaching below 50bp over the medium- term (currently ~69bps)
- Expect a further knock to U.K. confidence vs continued optimism in Europe, and while MPC hawkishness is unlikely to convert into rate hikes while ECB is laying the ground to taper
To contact the reporter on this story: Stephen Spratt in London at sspratt3@bloomberg.net To contact the editors responsible for this story: Ven Ram at vram1@bloomberg.net Keith Jenkins
Alert:
HALISTER1Source: BFW (Bloomberg First Word)
Tickers 2539Z GR (European Central Bank)
People Adam Kurpiel (Societe Generale SA)
Anton Heese (Morgan Stanley & Co International PLC)
Cagdas Aksu (Barclays PLC)
Eric Oynoyan (BNP Paribas SA)
Francis Yared (Deutsche Bank AG)
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