Irish trouble bodes ill for European bond markets

A cauldron of nasty news is brewing and shaking the confidence of investors in Irish government bonds. Rising yields on government debt have been treated with indifference of late as investors have been able to point to signs of traction in the major European economies. When the core of Europe was in bad economic shape, it spelled bad news for peripheral nations. But, as though nobody cares any longer, they have been sanguine over imploding government finances as lesser nations try to prop up their banking systems and find a sustainable path to austerity. But the rising risks of holding ailing nations’ debt is once again shaking the foundations as yield premiums stretch to new records today.

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European bond markets – It took several hours to get there, but German bunds are finally showing gains on the day as investors’ focus finally shifts away from the hub of growth to the pitiful state of peripheral governments’ fiscal health. A three basis point decline in the German 10-year yield compares to six-and-seven basis point increases in Spain and Italy, where growth will feel the benefit of German and French muscle-flexing. In Ireland government debt prices have tumbled sending the yield higher by 11 basis points and sending the spread against bunds out to a record premium today. Portuguese bonds were further impacted by political gridlock with a budget crisis looming large. Ireland is doing all it can to get to a sustainable fiscal position before next year when it will once again start issuing bonds to plug the yawning budget gap created largely by the rescue of its banking sector at an estimated cost of €50 billion. December bunds rose to 130.75 for a 50 tick gain on the day at best, while the implied yield on Euribor contracts gained about three pips as cash markets tightened in light of a possible liquidity crisis.

Eurodollar futures – Investors are trading U.S. yields, caught like a deer in the headlamps on Monday. Notes are marginally higher with yields slightly lower as investors are in no mood to challenge the buying actions of the Fed. The approximate amount it will buy monthly between now and the end of June is $75 billion. But on the other hand the government is issuing a similar amount of fresh debt each month to plug the growing budget deficit. In light of a strong jobs report last Friday, one could argue that yields ought to rise somewhat. Eurodollar futures are indeed falling as implied yields rise, although that is likely linked to demand for liquidity in wholesale cash markets evidenced by rising Libors.

Canadian bills – Weakness in Canadian housing starts data earlier in the session hasn’t weakened expectations over a possible Bank of Canada interest rate increase in the coming months. Bill futures are lower in price as the cost of borrowing in the money market rises. Government bonds prices are moving in the opposite direction to U.S. notes highlighting the work of the Fed in its domestic market. The key 10-year government bond yield edged up to 2.86% even after housing starts in October fell to the slackest pace since April 2009 disappointing bullish analysts.

Australian bills – Bill prices fell back as the greenback depressed risk appetite. Ninety-day futures prices slid five basis points after an ANZ measure of online and newspaper job advertisements rose by 0.6% indicating a still-tightening labor market.

British gilts – Short sterling interest rate futures fell by around six basis points as implied yields rose. Gilt prices also edged lower as government bond yields edged higher to almost 3%.

Japanese bonds – Local bond bulls were beaten back by sellers in response to a hearty U.S. employment report as dealers felt less need to seek the safety of government paper. The December JGB futures contract slumped 30 ticks to close at 142.81 sending the yield four basis points higher to 0.955%.

Andrew Wilkinson is a Senior Market Analyst at Interactive Brokers LLC

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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