Bonds higher as crude jumps and stocks slide

Bond investors had emotions tugged both ways as a volatile Libyan situation drove safe-haven demand skyrocketing before hawkish commentary from an ECB member later dampened enthusiasm for government paper. Yields continue to remain toward the day’s lowest point, however, as enthusiasm for a stock market recovery becomes a distant memory.

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Eurodollar futures – Yields on benchmark U.S. government debt fell to a two-week low, recovering more than 25 basis points from its highest point in 10-months. At one point on Tuesday, the 10-year yield slumped to 3.49% as investors’ fears over rising geopolitical tension were fuelled by a 10% jump in the price of crude oil. Libya is Africa’s largest crude oil resource and its President Qaddafi appears to be adopting a scorched-earth policy before giving in to protesters demanding he hands over power. The March Treasury note future jumped to a session high at 119-28 before sentiment was dashed by comments from a European central banker. Nevertheless the contract remains a half-point higher at 119-20 for a yield drop of five basis points on the day at 3.53%. Eurodollar futures have also pared an earlier surge but implied yields are still lower by six or so pips along the curve. Consumer confidence across the U.S. jumped to 70 and in excess of today’s expected reading to register a gain from a January reading of 60. The threat from Libyan political meltdown stems not simply from rising Middle East tension, but rather the jump in crude prices has the ability to crimp the global recovery, which is also outweighing the inflationary implications at this point in time.

European bond markets – ECB governing council member Yves Mersch warned that the central bank might be forced to adjust monetary policy as inflationary pressures stare it in the face. He noted that there was an inevitability about the need to rebalance in light of a return to the central bank’s 2% target ceiling. Discussion at the central bank must by now be pretty heated given the recent calm by its President Trichet and others who have moved to quell speculation that recent comments not be taken out of context. Mr. Trichet earlier noted that policy was set appropriately but now faces the rebuke of Mersch who says that his colleagues couldn’t be faulted for reaching his same conclusion. German bunds rose with the March contract reaching 124.36 before gains were pared to 124.10. The yield fell to 3.16% despite an advance to a four-year high in a GfK consumer confidence reading for Germany. Italian consumer confidence also rose. In contrast to falling bond yields those at the short-end of the curve rose on comments from Mr. Mersch.

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