Head of Fixed Income Strategy
Despite the ECB's preparations to cut rates, european sovereign bonds continue to decline. This can be attributed to the surge in commodity prices sparked by potential escalations in Middle East conflicts, hinting at sustained or even increased inflation in the latter half of the year.
Inflation plays a crucial role in bond performance. If it remains high, the chances of a bond bull rally are slim, as central banks would struggle to implement aggressive rate cuts. Expectations for Fed rate cuts in 2024 have dwindled from nearly six to less than two, while in Europe, they have decreased from almost seven to three.
Despite expectations that the ECB would be more aggressive in cutting interest rates than the Federal Reserve, this divergence hasn't halted the rise in Bund yields. Starting the year at 2%, ten-year yields have climbed to nearly 2.5%, showing an upward trend that could push them to test resistance at 2.5% and potentially reach 2.75% if breached.
Assuming a one-year holding period, yields would need to exceed 2.8% to result in a loss. Considering the potential for persistent inflation or economic recovery, the upside of such a position in the event of a market downturn or disinflationary trends cannot be ignored. For instance, if 10-year Bund yields were to drop from 2.46% to 1.46%, the position would yield an 11% upside.
While 10-year Bunds have declined by approximately 2% since the start of the year, Italian BTPs have remained stable. This outperformance can be attributed to the fact that Italian BTPs offer the highest yields among European sovereign bonds.
This high yield makes Italian BTPs attractive as a "safe haven" asset if inflation persists, as they provide a stronger hedge against inflation. Additionally, they would benefit from their correlation with the Bunds in the event of heightened tensions in the Middle East. Recent years have shown that higher yielding fixed-income securities, such as junk bonds, have demonstrated resilience in the face of high inflation.
Considering a one-year holding period, Italian BTPs offer an appealing risk-reward profile:
18-04 Micro Treasury Yield Futures Contracts: a simple way to trade interest rates markets.
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08-Apr ECB preview: data-driven until June, Fed-dependent thereafter.
03-Apr Fixed income: Keep calm, seize the moment.
21-Mar FOMC bond takeaway: beware of ultra-long duration.
18-Mar Bank of England Preview: slight dovish shift in the MPC amid disinflationary trends.
18-Mar FOMC Preview: dot plot and quantitative tightening in focus.
12-Mar US Treasury auctions on the back of the US CPI might offer critical insights to investors.
07-Mar The Debt Management Office's Gilts Sales Matter More Than The Spring Budget.
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01-Mar The bond weekly wrap: slower than expected disinflation creates a floor for bond yields.
29-Feb ECB preview: European sovereign bond yields are likely to remain rangebound until the first rate cut.
27-Feb Defense bonds: risks and opportunities amid an uncertain geopolitical and macroeconomic environment.
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21-Feb Four reasons why the ECB keeps calm and cuts later.
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12 Feb Ultra-long sovereign issuance draws buy-the-dip demand but stakes are high.
06 Feb Technical Update - US 10-year Treasury yields resuming uptrend? US Treasury and Euro Bund futures testing key supports
05 Feb The upcoming 30-year US Treasury auction might rattle markets
30 Jan BOE preview: BoE hold unlikely to last as inflation plummets
29 Jan FOMC preview: the Fed might be on hold, but easing is inevitable.
26 Jan The ECB holds rates: is the bond rally sustainable?
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16 Jan European sovereigns: inflation, stagnation and the bumpy road to rate cuts in 2024.
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09 Jan Quarterly Outlook: bonds on everybody’s lips.
2024: The wasted year
Markets are driven by election optimism, overshadowing growing debt and liquidity concerns. The 2024 elections loom large, but economic fundamentals and debt issues warrant cautious investment.
As US economic slowdown hints at a shift away from exceptionalism, USD faces downside with looming Fed cuts. AUD and NZD set to outperform as their rate cuts lag. JPY gains on carry unwind bets and BOJ pivot.
Amid AI and obesity drug excitement, equities see varied prospects: neutral on overvalued US stocks, negative on Japan due to JPY risks, positive on Europe. European defence stocks gain appeal.
With the economic slowdown, quality assets will gain favour, especially sovereign bonds up to 5 years. Central banks' potential rate cuts in Q2 suggest extending duration, despite policy and inflation concerns.
Commodities poised for rebound. The "Year of the Metal" boosts gold and silver, copper awaits rate cuts. Grains may recover, natural gas stabilises. Gold targets $2,300-$2,500/oz, copper's breakout could signal growth.
Markets are driven by election optimism, overshadowing growing debt and liquidity concerns. The 2024 elections loom large, but economic fundamentals and debt issues warrant cautious investment.
As US economic slowdown hints at a shift away from exceptionalism, USD faces downside with looming Fed cuts. AUD and NZD set to outperform as their rate cuts lag. JPY gains on carry unwind bets and BOJ pivot.
Amid AI and obesity drug excitement, equities see varied prospects: neutral on overvalued US stocks, negative on Japan due to JPY risks, positive on Europe. European defence stocks gain appeal.
With the economic slowdown, quality assets will gain favour, especially sovereign bonds up to 5 years. Central banks' potential rate cuts in Q2 suggest extending duration, despite policy and inflation concerns.
Commodities poised for rebound. The "Year of the Metal" boosts gold and silver, copper awaits rate cuts. Grains may recover, natural gas stabilises. Gold targets $2,300-$2,500/oz, copper's breakout could signal growth.
