EU RATES ROUNDUP: All About the Curve; JPMorgan Short Buxl at 1%
(Bloomberg) -- Clear trends on curve remain, with long-end steepeners and short/steepeners in front-end EUR rates in favor, outright duration views are limited. Focus returns to ECB sequencing debate after lots of ECB speakers, source reports, as well as the latest soft inflation print.
- JPMorgan and Morgan Stanley reiterate long-end steepener views; short front-end/steepeners outright or conditionally remain popular, with Citigroup, Barclays, Deutsche Bank and SocGen all recommending
- Barclays (strategists including Cagdas Aksu)
- Latest ECB reports came across as dovish with some concerned market is getting ahead of itself; don’t think there is much misunderstanding in communication, ECB won’t adjust forward guidance in April; look for small depo rate hikes and QE tapering from 2018
- Continue to hold reds/greens Eonia steepener, which has a short duration bias in the 10y part of the curve
- Initiate Sept. 17/Jan. 18 Eonia steepener given changes in forward guidance needed before first 10bp hike; earliest 10bps hike opportunity for ECB could be Dec. 2017 or Jan. 2018
- Close 10s30s steepeners in Ireland, after gaining ~35bp since early October; turn neutral at current levels with front-end pricing little risk premium
- EGB spreads view are maintained, hold short 10y France and Spain vs Germany as ECB turning less aggressively dovish, spreads are no far from level expected in a Le Pen loss scenario
- Citigroup (strategists including Harvinder Sian)
- Trump optimism is beginning to wobble and inflation rates may be peaking, foundations of the reflation sell- off are looking shaky to say the least
- Lower inflation in March will also keep the focus on the growing debate at the ECB on policy sequencing; improving growth feeds the hawks while disappointing inflation feeds the doves; Draghi may have to acknowledge the growing debate in the Q&A, stick with existing front-end EUR shorts
- Add conditional downside trade, which is short payer skew on the left-hand side of the implied volatility surface, offering a positive rolldown; receive 8.5 cents upfront to enter the EUR 2y2y at the money forward/+25/+50 payer ladder
- Fall in EUR 5y5y inflation swap, is the market pricing peak inflation; lack of ECB credibility, unanchored medium-term expectations, leaves 5y5y inflation highly influenced by contemporary inflation
- Hold short EUR 5y5y inflation swap targeting 1.4%, which equates to fair value of 0.15% for 10y bund yields, all else being equal
- In the U.K., gilt market will price Article 50 negotiations chiefly on the perceived likelihood of cliff-edge GDP risk; remain bullish gilts for the first phase
- Deutsche Bank (strategists including Francis Yared)
- Several ECB speakers have pushed back against an imminent change to the current forward guidance, suggesting there is a strong consensus
- Limited room for ECB to deliver a more dovish message at April meeting, even if there is no one- off hike to the deposit facility rate, see room for the money market curve to steepen; hold Eonia 2y1y/4y1y steepener
- Added EUR 5s10s steepener as a reduced carry bearish trade, should benefit as ECB scales back stimulus over rest of 2017; also supported by significant change in directionality of 5s10s slope vs level of rates relative to the experience since mid-2014
- Hold short 3Y OAT as a convex hedge against increased political risk in France; keep Italy 5s30s steepener as a positive carry bearish trade on Italy
- In the U.K., BOE faces a short window where it could feasibly hike rates prior to real incomes slowing due to higher inflation; exit 1y1y/3y1y Sonia steepener; Gilts remain expensive cross market, 5s10s slope is also excessively flat to models, rotate short 10y gilts to 5s10s steepener
- JPMorgan (strategists including Fabio Bassi)
- ECB rhetoric endorsed QE and policy rates sequencing embedded in forward guidance; challenges around communication, capacity constraints, risk of tighter financial conditions support QE tapering first and hiking rates later
- Expect tapering in 1st half of 2018, first depo hike in December 2018 with risks of an earlier move in 3Q 2018
- Long term yields are too low and the curve is too flat; hold 7s/15s steepeners, look to enter shorts in 30Y Buxl around 1.00%
- Rotate outright long in June 2018 ECB OIS into June 2018/Sept. 2018 and Dec. 2017/Dec. 2018 ECB OIS curve steepeners
- Keep intra-EMU tightening exposure overweight basket of France, Spain, Italy, overweight Cyprus and Greece, matched by cheap hedges against a Le Pen victory such as underweight expensive Belgium and the Netherlands short- dated bonds, hold credit-curve flatteners in 3s10s France and Spain vs Bunds
- Modest repo funding pressure, receding French political risk and likely higher average maturity of ECB purchases vs Feb. support tighter Schatz swap spread; express via paying Bund swap spread in the Schatz/Bund/Buxl swap spread fly, also favor Bobl/Bund swap-spread curve steepener
- In the U.K., take profit on Short Sterling steepener boxed vs Euribor flattener; stop out of short 10Y gilts for a loss, though still expect yields to grind higher over the coming months
- Morgan Stanley (strategists including Anton Heese)
- Numerous speeches from ECB members over the last week have provided ammunition for both hawks and doves; crucial issue is the inflation data, especially the core numbers
- Weak inflation dynamics are likely to make it difficult for the ECB to normalize policy at all rapidly; 5y and shorter tenors can outperform on the curve and continue to suggest German 5s30s steepeners
- German funding markets continue to be a source of support to Bunds; 3m and longer-term funding for Bunds is still around -70bps, which suggests the funding markets do not expect collateral squeeze problems to go away; if rates remain as low as implied, then there is an argument for owning Bobls
- Given QE pace slowing, lack of marginal buying from Japan due to the fiscal year-end, positive April seasonality for OATs may be delayed until the French election outcome becomes clearer after the 1st round election, despite recent fall in political premium priced in by the OAT market
- Maintain OAT/Bund 10s30s flattener and BTP/Bund 5s10s flattener as a hedge against potential re- widening of spreads
- SocGen (strategists including Vincent Chaigneau)
- Time to re-set conditional bearish trades in EUR rates as the rates normalization theme will inevitably return, along with QE tapering
- Maintain/add to EUR 1y2y and 2y5y bear-steepeners, short 2s5s10 fly via payers; still short G4 duration,reducing further as 10y Bund broke through 0.40%
- Recent anonymous ECB reports pushed back on market interpretation of last ECB meeting, echoes recent comments from Praet; turn less enthusiastic on bear steepeners beyond 5y sector, EUR bearish flatteners are premature
Alert:
HALISTER1Source: BFW (Bloomberg First Word)
Tickers 2539Z GR (European Central Bank)
People Anton Heese (Morgan Stanley)
Cagdas Aksu (Barclays PLC)
Fabio Bassi (JPMorgan Chase & Co)
Francis Yared (Deutsche Bank AG)
Harvinder Sian (Citigroup Inc)
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