Thursday, May 20, 2010

Accusations that Germany's efforts to fly-solo in propping up the euro created greater tension today. Since the sun broke over Manhattan, equity index futures have dropped from unchanged to 20 points lower in sympathy with a reversal of fortunes for the performance of European benchmarks. Just for fun, U.S. initial jobless claims data poured fuel on the theory that the global recovery is toothless. Meanwhile mere rumors that Euro-area governments would follow the German lead in banning certain short sale practices highlighted the fear gauge and created a heavy bid for government debt pushing yields lower still.

European bond markets - Bond markets have lost their connection to any fundamental data. The core-driver across fixed income these days is fear and a desire to avoid risk. German bund futures expiring in June have accelerated higher during the morning having just triggered stops to a fresh contract high at 128.09. Yields continue to give way and the 10-year is now yielding five basis points less than midweek at 2.71%. Liquidity concerns, however, continue to mount at the short end, which is reflected by a three basis point decline in the price of euribor futures.

Eurodollar futures - Eurodollar futures are sharply higher on the graver risk tone and after the news that jobless claims rose 25,000 to 471,000 through last weekend. That reading is the highest in a month and simply put is not what the doctor ordered for this time of year and stage of the recovery. The two-to-10-year yield horizon slumped by 10 basis points as dealers flocked to the security of fixed income increasingly skeptical that the FOMC will reverse its course this year. June note futures came within a tick-and-a-half of the contract high achieved amidst the panic of May 6 when equity indices crashed. Meanwhile Eurodollar prices are about one-eighth of a percentage point higher as monetary tightening fears continue to be swept aside.

British gilt -Gilt yields slid seven basis points to 3.58% at the 10-year with the June futures contract reaching a record price. Eurozone turmoil continued to be the driving factor as dealers washed away the positive retail sales reading showing ongoing consumer-led recovery. However, there was little follow-through at the short end of the curve, where short sterling prices failed to rally presumably as cash markets face similar pressures to those of the euro-area concerning counterparty risk. Gains were more evident along the strip where the September 2011 expiry gained by six basis points.

Canadian bills - Yields at the Canadian 10-year failed to fall as far as comparable U.S. notes, dropping by seven basis points to 3.33%. The premium now paid by Canadian investors thereby widened out to six basis points today. This is another sign that risk aversion is accelerating around the world. Commodity prices continue to remain under strain and a threat to global growth makes Canadian monetary tightening questionable in its timing. 90-day bill prices surged yet again today adding up to 15 basis points from September 2011 expiration onwards.

Australian bills - Melting Asian stock price and heightened geopolitical tensions between North and South Korea drove the Japanese yen higher to reflected economic panic. Australian credit markets responded with a flurry of bond buying enough to crater yields by three basis points to 5.38%. Bill prices also responded with outsized gains adding 20 basis points from December maturities onwards.

Japanese bonds -Japanese yields were driven more by global growing pains than by a shortfall in first quarter GDP, which still grew at a healthy pace. At this point in the global recovery the meaning of backwards looking data is diminished given the size of perceived growth threats from European fallout.

Andrew Wilkinson Senior Market Analyst