Reluctance among equity investors to drive prices towards 2011 highs and further proof that underlying inflationary pressures are insufficient to rattle the Fed saw buying of Treasuries in to the weekend. The rally for Treasury prices comes a day after the weakest showing of demand at a 30-year auction in six months, but a rally for the dollar appears to be underpinning a view that a peak in inflation maybe nearby if indeed it is a weaker dollar that has sparked inflation through raising the appeal of commodities as a hard currency alternative. The fact that global long-ends followed suit on Friday merely supports this interpretation with European markets heading in to the close at the week’s highs.
Eurodollar futures – Contracts with maturities beyond 2012 made price gains of four or more basis points on Friday as the yield curve continued its flattening prices driven by declining 10-year yields. The April consumer price index came in as expected leaving prices higher year-on-year by 3.2% while excluding food and energy the series stands just 1.3% higher. The report was in-line with forecasts and leaves investors with one les reason to expect the Fed to change its stance. Indeed rate expectations continue to be pushed back with the market interpreting the FOMC’s extended period of low interest rates through mid-2012. A later University of Michigan consumer confidence reading failed to upset a bond market rally that shaved four basis points from the 10-year yield to 3.18%. Consumer confidence climbed from an April reading of 69.8 to 72.4.
European bond markets – Euribor futures look set to close lower in to the weekend following a show of good health in the first quarter when GDP strengthened by 0.8%. On an annual basis, that translates to a gain of 2.5% eclipsing that of the U.S. Short-dated euribor contracts nevertheless fell from a sharper decline as the specter of fresh EU discussions next week keeps investors firmly focused on the future rather than the past. June bund futures slumped in response to the report on heightened concerns that the report would perhaps refuel the ECB’s ambitions to tighten monetary policy. However, a rise in the 10-year yield was reversed sending it down to 3.08%, close to the lowest this year, as June futures rose by 12 ticks on the day to 124.42. The EU earlier threw another hazard in front of a market advance by revising upwards its 2011 inflation forecast from 2.2% to 2.6%.
British gilts – Gilt traders drove the June contract to within 20 ticks of its weekly high heading into the official close and sending the 10-year yield south to 3.36%. The Institute of Fiscal Studies in its report on British living standards highlighted consumers increasing discomfort. With inflation exceeding income growth and government spending cuts overshadowing welfare payments, the IFS showed that earnings in real-terms were 3.8% lower in the 11 months through February. The Bank of England could worsen the situation should it choose to respond to inflation driven largely by government tax increases and higher energy costs. This week the Bank warned that this year inflation might return to 5%, but it continues to appear to be buying time against raising interest rates. Short sterling futures mustered a tiny rally.
Canadian bills – The benchmark government bond yield softened in response to a half-point rally in U.S. treasuries although domestic yields failed to fully match the five basis point slip in American debt. Tame U.S. inflation data arguably diffuses the plot to raise Canadian interest rates and as such was reflected in a three point rally in 90-day bill prices. Government bond futures advanced by 45-ticks to 122.63 as its yield dipped to 3.19% leaving local debt two pips above comparable U.S. treasury notes.
Australian bills – Weaker Asian stocks helped underpin positive sentiment across the 90-day bill futures strip where implied yields eased by a further point. The mood improved earlier in the week after the government revealed a net loss of jobs for April creating debate over the prospects for the regular economy outside of a booming mining sector where demand for new hires remains strong. Aussie government bond prices were unchanged leaving the benchmark 10-year yield at 5.35%.
Japanese bonds –Despite a 32% year-on-year gain in machinery tool orders during April, dealers continue to take the view that economic recovery is likely to remain elusive or at least that it will be a long, hard slog in light of the earthquake and ensuing devastation. Japanese 10-year yields eased marginally and remain sticky at the lowest of 2011 closing at 1.106% after the June JGB future rose by five ticks to 140.78.
Andrew Wilkinson is a Senior Market Analyst at Interactive Brokers LLC
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