During the past 10 days several Fed speakers have delivered warnings that the Fed is edging closer to raising interest rates. Last night in a question and answer session on ABC television, Chairman Bernanke said the same thing – the FOMC will not wait around for full employment or for inflation to surge before acting on rates. In its infinite wisdom the market continues to push bond yields lower in response to seemingly endless waves of sovereign crisis news in the belief that the Eurozone economy will be slowest to recover if it faces further fiscal headwinds.


Eurodollar futures - U.S. 10-year yields have slumped from 4.01% to 3.14% in the space of less than two months. Since yields reached a peak at the start of April the latest two employment reports show 267,000 private job additions compared to 235,000 in the entire first quarter, while total non-farm payrolls rose by 721,000 for April and May compared to 261,000 payrolls added through quarter one.

Anyone trading bonds on a domestic view will likely have lost money on the recovering economy had they not acted to counter the rising threat of sovereign default emanating from Europe. 10-year yields have become severely dislocated from the real economy on account of the European debt crisis. This morning the Eurodollar complex retains a positive bias with implied yields slipping a further four or five basis points as the market challenges last week's low point for yields in the aftermath of the employment report. Notes are flat at 120-27 in the September treasury note future where the yield has risen three basis points to 3.17%. It would seem that no one is listening to the Fed.

European bond markets - A rally in the euro seems to be courtesy of an ongoing recovery for the Hungarian markets where bond default insurance costs less today than it did yesterday. Nevertheless fixed income prices continue to jump as fear remains a factor for European investors. The September bund is up a half-point at 129.70 where yields slipped to 2.50%.

European officials have just put the final touches to the European Financial Stability Facility, which creates a fund allowing it to sell bonds backed by guarantees. National governments must formally request funds before the EU will approve a guaranteed loan and it seeks to have those bonds triple-A rated by agencies. The bonds are also deemed acceptable collateral at the ECB's refinancing operations. The agreement is the mainstay of the recent €750 billion rescue package.

British gilt - Gilt prices are undeterred by earlier comments from Fitch ratings agency, which warn the British government over the potential loss of a top-notch credit rating unless it seeks to speed up deficit reduction measures. We'll have to wait and see what other tricks new Chancellor George Osbourne has up his sleeve at his inaugural June 22 budget delivery to lawmakers in Parliament. The September contract added 24 ticks to 119.66 sending yields at the 10-year down by two pips to 3.47%.

Japanese bonds - Ahead of further debt auctions this week the yield curve couldn't maintain earlier gains with the 10-year JGB adding one pip to yield 1.219%. An earlier 30-year auction received the weakest demand in six years as investors baulked at low yields as equity prices rebounded from Monday's losses.

Canadian bills - Canada's government bonds bucked the move in U.S. yields with the September contract adding 20 ticks to 121.55 where the yield stands at 3.30%. The premium commanded by investors willing to hold Canadian bonds instead of U.S. notes has now widened to 13 basis points as the domestic economy grips construction and consumer spending. The Bank of Canada has threatened to hold off raising rates on account of European turmoil.

Australian bills - Aussie yields snapped back as risk appetite snapped back after Chairman Bernanke's comments concerning a moderate economic recovery. Dealers sold government bonds as equity prices gained and commodity prices rebounded. The 10-year yield rose by five basis points to 5.32% after a thunderous 13 basis point decline on Monday.

Andrew Wilkinson Senior Market Analyst