IB Interest Rate Brief: Athens versus Grimsvotn
Working on the rule of thumb that approximately each one thousand feet of volcanic ash spewing from Iceland’s Grimsvotn volcano is equivalent to one basis point of government bond yields, it’s logical to conclude that Greek two-year yields at 25% today tower higher in the atmosphere. It is, however, harder to estimate which event outcome will affect the European economy more. Disruption to trade, air and passenger traffic last year after billowing ash clouds over shadowed Northern Europe have returned although they will eventually clear. The horizon might not clear in the event of a Greek default, 18 months in the making. Yields are softening once more as clouds of several varieties loom overhead.
European bond markets – A third consecutive dip in a consumer confidence index compiled by Nurembourg-based GfK research spurred a substantial rally in Euribor futures erasing up to seven basis points of implied monetary tightening. The June index eased further to 5.5 from 5.7 and it’s hard to stake a claim that with Grimsvotn spreading 20,000 feet of molten ash high above northern Europe that trade is likely to improve during the coming month. Olli Rehn at the Monetary Affairs Commission told a forum that Greece was the hardest of the three bailout victims and suggested the potential for negotiations between the government and private bondholders beyond moves to sell state-owned assets accompanied by further spending cuts. While the ECB is dead-set against any form of debt restructuring whatever suggestions Mr. Rehn floats are highly likely to become shrouded by the overhead clouds. June bund futures rallied lowering the benchmark yield on 10-year government paper to 3.05% and within three basis points of the lowest since December 5.
Eurodollar futures – Weakness in an April durable goods report midweek prompted Eurodollar traders to edge futures contracts ahead. The April reading slid by a faster-than-expected 3.6% while excluding orders for transportation the measure slipped by 1.5%. Even yields at the lowest point so far this year failed to instill much in the way of additional mortgage activity in the housing market with MBA applications advancing by a mere 1.1%. Much has been made of the end of quantitative easing in terms of whether yields will spring higher in the absence of Fed asset purchases. But with the central bank buying no more than $8 billion per month at the same time the treasury is issuing in excess of $100 billion per month it seems a low likely event that the argument of a rebound is solid. In fact five-year yields fell to another low midweek as dealers brave for more supply. Eurodollars advanced by three ticks along the deferred time frame while 10-year note futures deliverable in June failed to breach Monday’s best levels although remain higher on the day at 123-06.
Canadian bills – Weakness in domestic data last week meshes well enough with signs of a growth slowdown in the nation’s biggest trading partner, forcing dealers to rethink pricing in the bills of acceptance futures market. Yields eased by a tick or two along the strip with the December contract threatening to further advance after a 25 basis point reduction in year-end forecast during the last four weeks. Benchmark bond yields remain static at 3.10% and sit just below comparable treasury yields possibly owing to the healthier fiscal background for Montreal.
British gilts – I noted in our earlier IB FX Brief that the British pound had staged a curious surge following a mediocre first-quarter GDP report earlier Wednesday. More curious was the lack of support in the market for short-term interest rate futures, which were slave to the eurobeat rather than domestic influences. Implied yields on short sterling contracts eased across the board by a couple of basis points while gilt yields are also on the wane this morning. The 10-year future expiring June rose by 30 ticks to 121.23 sending the yield lower by two basis points to 3.31%. Earlier in the week Bank of England member Paul Fisher argued that further monetary stimulus may yet be needed. Following today’s 1.5% first quarter advance for growth the OECD revised lower its call for growth in Britain this year and next urging the Bank to retain its policy stimulus in light of fiscal contraction.
Australian bills – Weakness in completed domestic construction data accompanied a sidestep by investors for risk appetite midweek. Short-term interest rate futures edged forward shaving a further two basis points. Investors now expect additional RBA tightening over the coming 12 months to add 22 basis points to the short-term yield structure. The market is becoming border line over the need for further monetary tightening, which also saw sellers show up and pound the Aussie to its weakest since April 13. Government bond yields matched the fall on the session easing to 5.27%.
Japanese bonds – Japan experienced a trade deficit during April for the first time in 31 years and marking only the ninth monthly deficit since the start of 2008. The impact of the March turmoil following the earthquake and nuclear disaster restrained exports while commodity price increases boosted the value of imports sending the nation in to an uncharacteristic deficit. There was little reaction across the government yield curve with June JGB bond futures flinching by just four ticks by the close keeping the 10-year yield at 1.115%. Dealers remain a little nervous about whether demand for bonds will stick around in the coming weeks should yields slide further. The first test comes Thursday at the auction of ¥1.1 trillion ($13.4 billion) of fresh five-year debt where dealers will closely watch the bid-to-offer ratio for signs demand might be waning.
Senior Market Analyst
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