U.S. yield curve flattens

IB Interest Rate Brief: Bonds weaker after Bullard offers conservative plan

The U.S. yield curve continues to flatten with 30-year yields lower while those at the 10-year area rise. A further round of quantitative easing would focus on maturities of between two and 10-years and there is a creeping sense of disappointment about the size of what the Fed might yet announce. Yesterday St. Louis Fed President James Bullard said one possible program that he liked might involve the Fed stepping in to buy $100 billion worth of bonds between FOMC meetings with the Fed communicating at each meeting in its statement on how much it would buy during the approaching month.

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Eurodollar futures – December note prices staggered towards a one-week low lifting yields a couple of pips to 2.56% along the way. Since the FOMC first hinted it might resume bond purchases at the September 21 meeting, the market has been bracing for a full repeat of phase one during which $1.75 trillion in mortgage and government bonds were taken out of the market. But the far smaller guidance from James Bullard has popped some of the optimism in the treasury market today. The December note future is near the session low and last traded at 126-12.

European bond markets – A solid and unexpectedly robust reading of investor and business leaders’ confidence in the German economic outlook saw German bunds slump in the early part of the session. The December bund contract eased to 129.40 before it recovered to a marginal gain for the day at 129.68 carrying a yield of 2.46%. Today’s low in the future marked the highest implied yield in eight weeks at the 10-year having risen by 10 basis points during the week. Bund prices had been enticed higher by the U.S. market but continually positive news from the heart of the Eurozone is making dealers edgy over the future path of interest rates. Two-year German yields faced the biggest weekly rise in 14 months after recent comments from the German contingent within the ECB council expressing concern over maintaining an extended period of lax monetary policy.

British gilts – Some of the recent euphoria is waning in the final session of the week as gilt traders ponder the likelihood of even lower yields in the face of a tougher environment for U.S. credit markets. The December gilt contract lost 16 ticks to yield 2.93% having put in a strong weekly performance following the confirmation from Chancellor Osbourne that 500,000 public sector jobs marked part of the cost of government plans to slash the budget deficit within four years.

Australian bills –Australian 90-day bills dipped three basis points as Asian stock prices ended the week on a positive note. Government bond prices also slid sending the yield on the 10-year bond higher to 5.133%.

Canadian bills – Weaker inflation data – at least at the Bank of Canada’s core index measure – saw bond buyers emerge in earlier trading , only for gains to give way to losses by lunchtime. Core CPI for September rose 0.2% month-to-month to leave the index higher by 1.5% on the year. This measure dipped marginally on the August reading and explains in part why the Bank of Canada is less concerned that prices will accelerate towards the 2% target anytime soon. Earlier in the week the central bank said it didn’t expect the annual pace to reach target until the end of 2012. Bill prices tailgated the performance of Eurodollars and slipped by two pips along the curve.

Japanese bonds – Japanese government bond futures scaled back recent gains with the December contract shedding 17 ticks to 143.43. Dealers see a slightly lower potential for the Bank of Japan to take further steps should the FOMC announce a smaller number. In today’s data an index of nationwide industrial activity for August reversed a July gain indicating a slow end to the summer.

Andrew Wilkinson

Senior Market Analyst

ibanalyst@interactivebrokers.com

Note: The material presented in this commentary is provided for informational purposes only and is based upon information that is considered to be reliable. However, neither Interactive Brokers LLC nor its affiliates warrant its completeness, accuracy or adequacy and it should not be relied upon as such. Neither IB nor its affiliates are responsible for any errors or omissions or for results obtained from the use of this information. Past performance is not necessarily indicative of future results.

About the Author
Andrew Wilkinson

Andrew is a seasoned trader and commentator of global financial markets. He worked for several London-based banks trading cash and derivatives before moving to the U.S. to attend graduate school. Andrew re-joins Interactive Brokers following a two-year stretch at a major Wall Street broker-dealer as their Chief Economic Strategist. His coverage of stocks, options, futures, forex and bonds regularly surfaces in global media, and over the last several years Andrew has made many TV appearances on Bloomberg, BBC, CNBC and BNN and Yahoo Finance.

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