Bond yields reversed declines inspired by panic-driven trading earlier in the week after Fed Chief Bernanke offered the prospect of another round of quantitative easing should a growth rebound undermine central bankers’ forecasts. The dollar balked at the thought of further easing, which Mr. Bernanke said need not rely only on quantitative easing but could mean cutting the rate paid on banks’ excess reserves in an effort to encourage them to lend.
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Eurodollar futures – The Eurodollar curve seems reluctant to embrace a midweek brush-off for risk aversion with lead contracts refusing to rally for fear of further liquidity pressures ahead. Year-end three-month futures trading at 0.49% still indicate that investors’ fears haven’t died down despite a solid jump in global equity prices. The timely revelation of lively discussion between FOMC members over the need for further monetary easing coincided with Bernanke’s testimony at Capitol Hill. Mr. Bernanke said he expects growth to pick-up, but says that if the Fed is wrong in its growth assumptions the FOMC has a variety of tools to help spur activity in an effort to boost employment. Implied yields declined by increasing amounts along the Eurodollar curve while the September treasury-note futures contract was lower by 12-ticks following his remarks and partially in response to a calmer session for European government bonds. The yield rose for a second day having reached 2.81% for a seven-month low on Tuesday. The reliance on low interest rates to spur activity was exemplified in the weekly MBA mortgage activity indices where a challenged housing market failed to spark either purchase or refinancing activity despite a slide in borrowing cost last week.
European bond markets – ECB interference in crucial peripheral government bonds has played a crucial role in soothing nervousness building ahead of Italian debt auctions later in the week. Yields on benchmark Spanish and Italian debt eased while German bunds fell adding three pips to yield 2.73%. There was encouraging news from a German wholesale price report for June showing a decline of 0.6% between months allowing the annual pace to slip four-tenths to 8.5%. Euribor futures edged forward at deferred maturities although sensitivity remained to nearby futures as liquidity pressures played a role.
British gilts – Nearby short sterling futures managed a mild rally following a worse than hoped for reading of the claimant count. While the rate of unemployment remained at 4.7% some 24,500 more people signed up for benefits in June while the May reading was revised higher. There’s worse still to come as 300,000 government job cuts as part of the austerity drive slowly unwind. Private employment growth is insufficiently strong in the current economic climate to offset the cull. Deferred short sterling maturities eased in sympathy with a reversal in gilt futures. The September contract fell 50 pips from the session high at 123.26 and currently carry a yield of 3.10% as global bonds trended lower.
Canadian bills –Canadian implied yields softened for another session as risk appetite picked up. Fed Chairman Bernanke’s offer to throw more bones to the world’s largest economy should the old dog growl again, helped sentiment in equity markets. An earlier gain for commodity prices accelerated on hopes that demand for minerals would resume. The result was a mild rise in the yield curve from three-months to the 10-year where benchmark yields added six pips to 2.95%.
Japanese bonds – A reversal in equity prices sat alongside a dollar/yen rate still below ¥80 on Wednesday offering bond dealers equally-weighted arguments. As a consequence the 10-year JGB yield remained unchanged at 1.10% and close to an eight-month low. Industrial production rebounded smartly in a May report with a monthly gain of 6.2% illustrating that business is returning to somewhat normal after the March earthquake rocked the nation and disrupted the economy.
Australian bills – The growing sovereign debt crisis in Europe over the past several weeks has forced an almighty change in the shape of Australian yield curve with expectations of a rate rise doing a handbrake turn as dealers now expect the RBA’s next move to be down. Even after a seven basis point sell off in Sydney-quoted bill futures prices midweek implied yields on maturities stretching at least one-year forward are trading lower than the central bank’s current short rate of 4.75%. Typically three-month cash prices, on which these futures are based, trade at an average premium of 18 basis points. The Aussie benchmark bond today remained unchanged yielding a notch beneath 5%.
Andrew Wilkinson is a Senior Market Analyst at Interactive Brokers LLC
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