A surprising advance in the Chicago PMI repeated the message from a chorus of indicators telling us the U.S. economy is on the mend. Such a strong reading would typically send fixed income buyers scurrying in anticipation of an upwards drift in yields. However, the weight of other contributing factors emanating from a boiling pot of contagion means that yields are staying depressed in core government bonds where investors feel comforted by manageable sovereign debt burdens. Elsewhere, investors are testing the resolve of the European authorities by driving peripheral government yields to record premiums above ultra-safe German bunds.
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Eurodollar futures – Ten-year Treasury note futures are only six ticks off an earlier high at 125-14 following a glowing Chicago purchasing managers index. The market had expected a decline in the reading for November, but in the event a strengthening of the diffusion index from 60.6 to 62.5 indicates further expansion in activity ahead. Nearby Eurodollar futures slipped by a couple of ticks, while deferred contracts rose by up to seven basis points as yields declined. The New York Fed continues its planned bond purchases as part of the $600 billion second round of quantitative easing, which is also helping keep a lid on rates. The Fed is buying upwards of $6 billion in government debt of various maturities each day.
European bond markets –December bunds leapt 81 ticks and currently stand at 127.88. Investors piled into the safety of German government paper as dealers shunned a wider-array of peripheral government paper. While yields slumped by eight pips at the German 10-year maturity, bond prices were sliding in Milan, Lisbon and Madrid, where investors began commanding record premiums above the German benchmark. For example, Italian yields widened out to 212 basis points above German yields while Spain fared worse widening to 282 pips. Investors are growing increasingly wary of the solution of a simple bailout to fix banking systems around the Eurozone. Euribor futures joined the rally with investors bidding up contracts and driving implied yields lower by as much as eight basis points at deferred maturities.
British gilts – December gilt futures rose 109 ticks to 122.25 as traders used the vapor of a weak consumer confidence reading to build on an already bullish session. The 10-year yield slid by nine basis points to 3.23% in a defensive environment. Short sterling futures saw accelerated gains as implied yields fell as much as seven basis points at later maturities.
Japanese bonds – Bond prices declined in Japan despite the escalating crisis of confidence in the Eurozone. The recent recovery in the Japanese yen hit its stride on Monday and further assured investors that less rather than more monetary easing is likely from the central bank. The December JGB contract managed a four tick gain to close at 140.89 but the yield on the cash 10-year bond added a pip to 1.18% making the November performance the worst in 17 months.
Australian bills –Aussie government bonds jumped in response to weaker risk appetite in the Asian region. The slide of more than 3% for Shanghai stocks and a call for tighter monetary policy from a Chinese academic voiced through the China Daily newspaper helped sour the tone in Australian credit markets. Investors drove up domestic government bond prices sufficient to drive the 10-year yield down by six basis points to 5.39%. Bill prices also made substantial headway as implied yields fell by seven basis points.
Canadian bills – A weaker than hoped for growth reading published today gave bill buyers scope to further depress expectations about future interest rate increases from the central bank. Implied yields on 90-day bills slipped by eight basis points along the strip. The December government bond futures contract gained 44 ticks to 124.01 shaving two pips off the 10-year yield to 3.06%. The GDP reading for the third quarter bucked consensus and fell by 0.1% rather than expanding by as much. The consolation was that second quarter growth was revised higher to 2.3% from 2.0%.
Andrew Wilkinson is a Senior Market Analyst at Interactive Brokers LLC
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