Bond party spoiled by Bini Smaghi

Global bonds are having a bad day heading into a three-day U.S. weekend after an ECB executive member warned Bloomberg news over the threat of rising prices. The prospect of rising interest rates spooked the front end of the German curve sending yields into a tailspin. Conversely a curious assessment from Japanese monetary policymakers weighed on yields in Japan as they questioned exuberance towards the recovering economy of the United States.

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European bond markets – An earlier jump in the German reading for producer prices in January barely dulled appetite for German government debt. Prices faced by producers rose at twice the expected pace at 1.2% causing an acceleration in the annual rate of change to 5.7% and perfectly set the stage for a warning from an executive governing member at the ECB. Lorenzo Binhi Smaghi told Bloomberg in an interview that “the degree of monetary accommodation has to be monitored and, if needed, corrected.” Two year German paper slumped given its sensitivity to potential changes in monetary policy causing yields to surge by eight basis points. The March bund contract unwound all of its gains made the prior day sending it to a loss of 37 pips to 123.36 to yield 3.22% for a session increase of five pips. Earlier in the day, Portuguese government yields rose to within five basis points of its highest since inception in 1999. Helping turn events around was the rumor that the ECB had bought paper directly from the interbank market and propping prices in the process. We must now await follow-up comments from Bini Smaghi’s classmates, which one must expect will dumb down his Friday warning.

Eurodollar futures – Eurodollars have also declined following the Bini Smaghi comments, which are weighing heavily on investors’ minds after this week saw enthusiasm for debt rebound. March note futures are lower by 10 ticks to 118-22 to yield 3.62% while Eurodollar contracts have slipped by around six basis points. There is no economic data on today’s calendar.

British gilts – Benchmark yields in Britain rose by three basis points on Friday after an unexpectedly robust reading for January retail sales. The market has it in its head that the bank of England will have no choice but to go with the flow and raise interest rates to defend against inflationary pressures. The Bank this week maintained its angle that those pressures will subside and inflation will return to base on its own. Gilt futures are lower by 22 pips in the March contract lifting the 10-year yield by three basis points to 3.78%. Short sterling unwound post-inflation report ebullience and dipped by seven basis points along the strip.

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