HALISTER1: EU RATES ROUNDUP: ECB Cuts Overpriced; JPMorgan Turn Short Bunds

EU RATES ROUNDUP: ECB Cuts Overpriced; JPMorgan Turn Short Bunds

(Bloomberg) -- Analyst remain mostly neutral on duration, JPMorgan now turn short 10Y bunds ahead of Sept. supply, ECB meeting.
  • A number of analysts continue to highlight that market pricing for further cuts from the ECB is excessive; both Morgan Stanley and Deutsche Bank highlight the disconnect between front-end EUR and JPY pricing
  • Barclays (strategists including Giuseppe Maraffino)
  • ECB minutes show they’re not in hurry to act, so a policy announcement in September remains uncertain; maintain view that outright duration, peripheral spread positions do not offer good risk/reward
    • Stick with portfolio of trades that have a relative short German duration, steeper curve, and long ASW bias: short 10y bunds vs USTs, receive 15Y fwd point on EUR swap curve vs wings, PGB 4s30s steepeners, long 7y OAT ASW
  • BNP (strategists including Patrick Jacq)
    • Domestic conditions remain relatively supportive for EGBs but growing expectations of Sept. Fed hike expose EUR yields to some upward pressure
      • Belly of the curve is most exposed, front end protected by the prospect of continued ECB dovishness
      • Bund yields have returned to lower side of summer range, use opportunity to put on a tactical EUR 2s10s swap payer
    • See risk of limited re-steepening of EGB curves in coming weeks, driven by a rise in U.S. short-term yield
    • Seasonal patterns should also support a steepening of BTP curve; recommend a BTP 10s30s steepener, currently at 99.5bps, target 112-115bps
  • JPMorgan (strategists including Fabio Bassi)
    • Enter shorts in 10Y Germany; turn bearish on duration into September with yields close to record lows, risks of ECB disappointment, resumption in supply; reduced exposure to periphery tighteners
      • Hold mostly wideners in core: 5Y Netherlands or Belgium vs Germany, 7Y Austria vs Germany, 30Y Finland vs Germany
    • In vol, stay short gamma on 3Mx2Y to earn vol carry; recommend selling Oct. 16 Bobl 131.75/131.50 (-0.58% / -0.54%) unhedged strangles at 43c, as ECB is unlikely to address scarcity concern in Sept. meeting
    • Yields have drifted higher in front-end of GBP curve; recommend entering longs in Nov. 16 MPC OIS given attractive valuations, see 3-4bps of upside as currently prices ~9bps of easing vs. expectations of 15bps
      • Enter gilt 10s30s flatteners; yields to grind lower into BOE purchases, move to tactical long duration bias, favor 30Y sector of the curve
  • Deutsche Bank (strategists including Francis Yared)
    • Several indicators suggest that Gilt curve is overreacting to QE announcement, similar to EGB move in 1Q 2015
      • Richness of GBP rates stand out; maintain short GBP 5y5y position outright rather than as a spread vs. JPY rates
    • In EUR rates, remain short 5Y, continue to see it unlikely for ECB to deliver 15bps of cumulative rate cuts currently being priced in; exit carry trade in 5Y Portugal, after recent weakness following DBRS comments: MORE
      • Maintain other trades including short EUR vs JPY 1Y1Y OIS rates, 10s30s steepeners in Italy, Buxl vs Bobl spread wideners
  • Morgan Stanley (strategists including Elaine Lin)
    • Shape of Eonia curve implies rate cuts by the ECB are back-loaded into next year; current levels of whites/greens are near all-time lows, curve is poised to steepen if rate cuts arrives sooner or taken off the table
      • Recommend entering 2y1y vs 1y (whites/greens) steepeners at 1bp to express the steepening risk
    • Market expectations for rate cuts by BOJ is similar to ECB in cumulative terms; divergence of market implied rate paths between ECB, BOJ has reached a historical high, as seen in 2y1y EUR vs JPY
      • Recommend fading the divergence, via long 5y JPY vs EUR swap at 8bps, given 5y JPY also benefits from Japanese bank ALM receiving flows
  • SocGen (strategists including Marc-Henri Thoumin)
    • Cannot see a rate cut from ECB happening; market continues to price a further 15bps of cuts into curve by late 2017; central scenario is for increase in ECB QE issue limit (at least for non-CAC), selected buying below -40bps
    • BOE QE represents greatest risks for the middle bucket, continue to recommend long 10y gilts vs swaps
      • BOE anticipates a fairly rapid economic deterioration in U.K., will want evidence before easing policy again; recommend paying Nov. 2016 MPC dated OIS at 12.5bps vs May. 2017 at 10.0bps, would gain if market’s conviction on a Nov. 2016 cut wavers
  • HSBC (strategists including Bert Lourenco)
    • Too much uncertainty over next ECB meeting due to PSPP design, bund yield levels; in EUR rates, suggest buying intermediate vega, positioning for more curvature
    • Periphery still offers value for carry, opt for Italy vs Germany for further compression
    • In cross-currency basis, expect EUR-USD 2s10s slope to flatten due to a resumption of issuance in September, higher USD Libor
    • Question whether the BOE easing package was needed, as real yields turn highly negative while economy is expected to slow down
      • Expect low point for U.K. rates has been seen, look to pay the 10Y-15Y sector; rebasing effects will prompt big gilt, Treasury index extension focused on the short-end
      • All linker indexes will contract at this month-end; maturing gilts, rolls should have a big overnight impact on FTSE index trackers on 7 Sept.
Alert: HALISTER1
Source: BFW (Bloomberg First Word)

Tickers
2539Z GR (European Central Bank)

People
Bert Lourenco (HSBC Securities Inc)
Elaine Lin (Morgan Stanley)
Fabio Bassi (JPMorgan Chase & Co)
Francis Yared (Deutsche Bank AG)
Giuseppe Maraffino (Barclays PLC)

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