Global government bond yields slumped deeper into the abyss following hot on the heels of fresh data depicting economic weakness. However, the rally has been erased as investors glance back over their shoulders at just how far interest rates have come during an inactive era for official monetary policy. The action is reminiscent to a 2009 labor report, which delivered the worst possible loss of jobs. That day the stock market bottomed as clued-in traders realized that the reading likely marked the capitulation of bad news. Although with less vigor, today’s durable goods report begs the same question of whether the bond market isn’t over-analyzing the situation.
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Eurodollar futures – Stock market losses have been curbed while gains in the September note future to as high as 126-28 have evaporated with the market back to unchanged on the session at 126-12. Eurodollar futures are now nursing losses of five basis points at the front end, which has had a curious impact on calendar spreads. In recent weeks the prospect of additional FOMC measures to add liquidity to the economy caused the implicit yield on the contract expiring in December to fall close to that implied by the nearby September expiration. Logically any further quantitative measures to boost the economy would likely come after the September contract expires adding to upwards pressure on the contract. However, over the last 24 hours sellers have widened the spread between the two from around five basis points to 13 basis points. One explanation is that as the economic picture darkens money markets are anticipating a resurgence of stress on financial lenders, which could conceivably culminate in a further credit crunch. As that scenario unfolds some money traders appear to be using the recent slide in short-term yields as an opportunity to hedge against rising interest rates.
Data today reflecting sales of new homes in July compounded earlier in-the-week numbers showing a slide in existing home sales. July numbers were supposed to show an unchanged outcome on the prior month. In the event that the June series was revised down while the July data fell by a further 12%. Elsewhere several commercial lenders plump with cash have chosen to forestall mortgage payments on property they now realize they overpaid for in a possible bid to renegotiate terms.
Durable goods data disappointed earlier today with investors primed for a July rise of 3%. The report showed a meager 0.3% gain although backwards looking declines in the data were revised up. All parts of the curve pushed towards more record lows earlier although the 10-year is only lower by two basis points to stand at 2.45%.
European bond markets – Some of today’s loss of confidence in the euro stems from an S&P downgrade in Irish country debt. The ratings agency claims that the efforts of the Irish government in rescuing its financial sector may be too onerous and will lead to a rise in the budget deficit. Irish debt was cut to its lowest grade since 1995 when the nation was making preparations for monetary union ahead of its ascent to Celtic tiger status. The news forged a widening in the spread between German and Irish bond yields to beyond the record set ahead of the EU’s May rescue package.
A German IFO survey unexpectedly showed confidence among business executives rising to a three-year high. Nevertheless, the stress building among the peripheral nations provoked a rally for the September German bund contract, which rose to a contract high at 134.73 before paring gains to 134.19 where the yield reads 2.133%. Meanwhile Italian yields remained unchanged as Portuguese yields rose 13 basis points. The stresses were most notable in the Irish market where the cost of government borrowing at the 10-year maturity added 23 basis points while Greek yields jumped 40 basis points.
Canadian bills – Canadian bond futures also rose to a contract high midweek as dealers reached for the additional available yield of 33 basis points above U.S. treasuries. Dealers continue to wipe out any remaining prospects of further monetary policy tightening at the Bank of Canada’s forthcoming meeting and bought 90-day bills whose implied yields eased by three basis points.
Japanese bonds – Despite the overnight slippage, the Japanese yen bond yields continued their downwards path with the 10-year easing two basis points to stand at 0.895%. Import and export data for July was mixed. On the one hand export numbers showed a lesser dip on the month than was expected while import data perhaps suggested caution by the Japanese consumer. All eyes remain fixated on the Bank of Japan and the Finance Ministry in the hopes that intervention aimed at keeping the economic recovery on track will soon appear.
British gilts –September gilt futures remain 37 ticks higher at 126.42 keeping yields down at 2.834% although the market is well off its best levels of the day when the contract shot to 126.93. Short sterling futures are around six basis points lower in price as the market players mirror the fears apparent in the Eurodollar market over the potential for a liquidity crunch.
Australian bills – Aussie yields slumped by a further seven basis points to close at 4.735% with bill contracts also rising by eight basis points. A leading index of Chinese economic activity dipped again for a ninth straight month.
Andrew Wilkinson is a Senior Market Analyst at Interactive Brokers LLC
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