IB Interest Rate Brief: Treasuries range bound ahead of House vote
Trading emotions are mixed ahead of an after-hours vote in the House of Representatives when House Speaker Boehner will attempt to pass legislation aimed at a two-step debt-ceiling increase that would cut spending by $917 billion over a decade. On the one hand dealers are of course concerned over the potential for default in the world’s largest economy and the likely loss of a coveted AAA-sovereign debt rating. However, such an event would likely accelerate economic malaise requiring a further revival attempt from central bankers around the world resulting in a lower cost of borrowing.
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Eurodollar futures – Eurodollar futures ignored a 24,000 dip in initial claims for unemployment benefit through last weekend and rose to imply a mild dip in yields. A stronger than expected reading of pending home sales recorded in June was also excused given an inventory overhang and few signs of life elsewhere in the housing market. Housing transactions in the process of completion had been expected to dip by 2% after surging by 8.2% in May. In the event pending home transactions jumped by 2.4%. Nevertheless September treasury note futures rose forcing the 10-year government yield to its lowest in one week. Ahead of the late-afternoon vote in the House the 10-year yields remained towards the bottom of a daily range from 2.93% to 2.99%.
European bond markets – Italy remained a trigger for tetchy European bond markets given the focus on a government auction at which demand fell short. Italy sold €2.7 billion worth of 10-year coupons rather than the hoped for target of €3 billion. The late June auction was successfully completed at 83 basis points lower than the recent auction and so boosts the cost to the government. Italian debt moved once again in the opposite direction to German paper forcing a further widening of spreads between the two. German unemployment fell during July by 11,000 after a dip of 8,000 in June and maintaining an overall rate of unemployment at 7%. Short-dated euribor futures contracts managed to move ahead by a further couple of basis points as tensions clearly remained present across the Eurozone. In recent trading the September bund future remains 12 ticks higher at 129.50 although well off an earlier peak at 129.87. The yield at the 10-year maturity is two basis points lower at 2.63%.
British gilts – British yield expectations softened in light of a bearish portrayal of retailing activity according to a CBI retail report for June. The trade group said sales were dull and certainly below normal for the summer months with cash-strapped consumers facing higher costs courtesy of an additional VAT tax as well as rampant inflation in excess of tame wage increases. Sales at grocers and home improvement chains slid with the balance of respondents declining to minus five after minus two in May. The CBI last reported a weaker reading in May 2010. MPC member David Miles in a speech delivered at the London School of Economics said that while inflation will likely rise in the near-term on account of strengthening energy costs, it would be a mistake to fight it on account of the damage this might cause to the economy. Implied yields dipped by three basis points at deferred maturities across the short sterling strip while gilt futures remained in positive territory at 124.05 where cash yields dipped by one basis point to 2.97%.
Australian bills – Bill prices in Sydney continued to face selling pressure as dealers shifted monetary expectations further away from a cut in the central bank’s short-rate. The midweek consumer price report put paid to expectations of easier monetary policy on account of challenges to global growth, while prompting some to resume arguments surrounding an eventual monetary tightening. Bill prices shed a further six basis points with the December contract implying a three-month cash Libor at year-end of 4.94%. Before the report, which indicated acceleration in consumer prices, the implied yield had fallen to 4.51% indicating at least one if not two quarter point reductions out of the Reserve Bank.
Canadian bills – The mild improvement in U.S. economic data caused a dip in Canadian bill futures despite the advance in Eurodollar futures. With the U.S. market gripped by the debt-impasse, Canadian markets appeared a little more nonchalant with dealers hoping that lawmakers will ultimately raise the debt-ceiling leaving the economy stronger. Bill futures slipped by a single basis point while the 10-year government bond maintained a healthy eight basis point discount below comparable treasuries. The September government bond future added 24 ticks to trade at 126.73
Japanese bonds – A 1.5% slide in the Nikkei 225 stock index was symptomatic of growing worries over the U.S. debt impasse as well as continued upwards pressure on the value of the Japanese yen. Buyers continued to flock to the safety of government debt with a mild advance of just eight ticks on the September JGB contract enough to shave another basis point off the 10-year government bond yield to 1.068%. A stronger yen is seen as a worry for exporters and is expected to restrict economic growth going forward. Government reports showed better conditions for retail trade in June as a 2.9% monthly jump left sales among retailers 1.1% higher than in June 2010.
Senior Market Analyst
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