Today’s Interest Rate Monitor from IB:
Treasury note prices are at session highs following tepid producer price data along with signs of home construction activity tempered by the harsh winter weather. However, even ahead of today’s flurry of real economic data, investors were lining up to buy fixed income investments after a triple-play of news highlighting the appeal of fixed payments.
After checking data at its domestic banks Chinese officials quickly concluded that some didn’t jump the hurdle and were told not to extend lending for the remainder of this month. Fearful of lax lending conditions creating excessive flows into both real estate and stock markets, the People’s Bank has been sounding off lately about the need to pare back on its perhaps overly generous liquidity provision. Without this stance throughout 2009 the domestic Chinese economy might not have withstood the external shocks created when American financial markets seized up.
As China feels it’s time to mop up some of the excess liquidity perhaps spilt during those days, global investors continue to fret over the potential for an emergent growth plateau appearing on the horizon. Risky bets continue to be unwound and investors are swift to jump back into government bonds in the knowledge that developed nations are very unlikely to follow the lead of developing nations’ central banks that might have already begun the slow grind to a tighter official monetary stance.
In Europe, another day creates a fresh raft of woes for the Eurozone as investors grapple with the prospect of how the government of Greece might successfully pull off sales of €53 billion in planned bond sales during 2010. The hand-wringing continues and the current tone of comments from the chorus of officials form both sides of the fence who wish to chime in on the debate is further undermining confidence.
Managing director at the IMF, Dominique Strauss-Kahn referred to Greece’s fiscal situation as “a serious problem,” yet doubts that it will lead to a fragmentation of the Eurozone. The recently proposed Greek solution was today referred to by the Dutch finance chief as “lacking in substance.” Mr. Strauss-Kahn was also swift to warn global governments not to withdraw emergency stimulus measures prematurely as the risks of so doing might push economies back into recession. The combination of a budgetary basket case and nations already close to the edge of crisis once again highlights the fragile nature of recovery and plays firmly into the hands of bullish bond market arguments.
However, it’s hardly plain sailing for those nations on the edge of peril. Portuguese and Spanish bond spreads over core German paper widened once again. A three basis point decline in German 10 year yields was met with similar increases by Iberian bonds. That was nothing in comparison to the slide in the price of debt issued by the government of Greece where the two-year yield surged by 90 basis points to yield 4.62% while 10-year yields jumped by 27 basis points to 6.18%. The Greek-German spread at the 10-year widened out to 294 basis points today.
In the United States yields responded to the Republican victory in the race for the vacant Massachusetts Senatorial seat. The conclusion leaves President Obama in something of a bind in passing further healthcare reform. While the bond market is swift to view this development as likely to lead to a reduction in the supply of debt, it has to be pointed out that practically the entire enlargement in the outstanding volume of marketable U.S. debt stems from economic rescue rather than reform. Were it not for Chinese and European risk aversion today, it’s doubtful that U.S. notes would find as much support as they presently are.
Eurodollar futures – March 2011 Eurodollars have added 3.5 basis points this morning to 98.54 and in the bigger picture are still very close to the Thanksgiving panic highs (low for yields) inspired by the Dubai World crisis. It’s also important to note that between then and now, yields rose sharply into the end of 2009, which means that since the beginning of this year Eurodollar implied yields have declined by 50 basis points at the short end of the curve. The March treasury note future is trading up 11 ticks at 117-14 after having breached Tuesday’s 117-17 high by a half tick. Currently the yield stands at 3.66%.
British interest rate futures – 10-year British government gilts are 29 ticks higher in the March contract at 114.72 with the yield at 3.99% as investors look right through today’s unemployment report card that delivered the biggest decline in the reading since April 2007. The forecast drop of 2,500 positions turned out to be a 15,200 gain. The interest rate complex reacted positively to comments from central bank chief Mervyn King who dismissed Tuesday’s shocking inflation reading as likely containing temporary factors. Short sterling futures have added four ticks sending the March 2011 yield down to 2.20%.
European short futures – March bunds today yield 3.25% at the 10-year maturity while euribor futures have added one-to-two basis points. The Greek fiscal developments or fears over sanity of the government’s plan continue to drag on Eurozone economic confidence.
Australian rate futures – A tame overnight reading for New Zealand inflation was a positive development for Australian interest rate expectations with futures rallying by four basis points. The CPI readings between the two countries is well correlated and the report was factored into next week’s Australian report, which might give the central bank less cause to lift rates. The additional Chinese measures to rein in excessive bank lending also weighed on commodity prices and harmed the Australian dollar. Yields on 10-year government bonds rose four basis points to 5.52%.
Canada’s 90-day BA’s – An earlier inflation report undershot the prediction of a 1.5% year-over-year increase in consumer prices for December by two-tenths and helped iron out from the Canadian yield curve expectations of interest rate increases. The bill futures market rallied seven basis points from September maturities onwards driving implied yields down to 1.2% at the March 2011 expiration.
Japan – JGB prices rose on account of the step-up in risk aversion midweek. The Chinese monetary policy measures are weighing upon the Pacific and Asian markets causing safe haven flows into the yen. The recent rise in bond yields in this environment makes for successful auction this month and next by the government. The March JGB future still closed three ticks lower at 139.18 to yield 1.32%.
Mr. Roche is the Founder and Chief Investment Officer of Discipline Funds.Discipline Funds is a low fee financial advisory firm with a focus on helping people be more disciplined with their finances.
He is also the author of Pragmatic Capitalism: What Every Investor Needs to Understand About Money and Finance, Understanding the Modern Monetary System and Understanding Modern Portfolio Construction.