ECB gives more important details on QE

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ECB gives more important details on QE

Global core bonds traded with a downward bias going into the ECB meeting. In the US, weekly claims disappointed. For a full review of Mr. Draghi’s press conference and ECB meeting seeFlash. On markets, the Bund tested the downside of the 155.81-157.27 trading range at the start of Draghi’s press conference (on GDP forecasts), but this dip was rapidly used to buy the Bund. All in all the market reaction suggests that there remains little upside for EMU yields and the euro, while equities have further upside. Peripherals eked out modest gains.
The German curve bull flattened with yields changes ranging between flat (2-yr) and -8.8 bps (30-yr). US yields were marginally lower, except for the 30-yr.

Some important technicalities about QE: Start March 9, probably until end Sept. 2016 (cf. inflation forecasts). National Banks will as a rule buy the debt of their sovereign. Very little agencies/local governments. Buying will be spread across the curve proportionally according to weighted volumes in the various segments. No buying of bonds yielding less than -0.20% (deposit rate). Review 25% cap on individual issues every six months, Purchases up to 31 year.

A big part of the ECB’s press conference went to Greece (ECB meeting was in Cyprus). To wrap up: Greek bonds won’t fall under the ECB’s buying programme, at least until space is created in Summer by the repayment of ECB SMP Greek bonds (33% limit), ELA funding will be raised by €0.5B, the ECB is ready to reinstate the Greek waiver and bring liquidity again under ECB operations after a successful review by the institutions and Greek banks remain solvent. ECB sounded not too enthusiastic on current Greek proposal.

The focus will be on the US payrolls today. Last month, the US payrolls report came out remarkably strong. The positive surprise was however mainly based in the revisions, while the January report showed a minor upward surprise. For this month’s February report, a limited slowdown in hiring is expected, to 235 000 from 257 000 in January. Several factors might have weighed on hiring in February: severe winter weather, port strikes in the West and declines in payrolls of drillers and shale gas producers due to the lower oil price. As a result, we see risks for a downward surprise in the February payrolls report. The main factors will be temporary in nature, but the underlying trend should remain in place. The unemployment rate is expected to edge down to 5.6% from an uptick to 5.7% in January. Also here, we believe that the risks, if any, are for a weaker outcome, namely a stabilization. Wages should continue to rise only very gradually.

SF Fed Williams sounded confident that economic growth and job gains would push inflation up over time. In the current world situation, he thinks the US will grow by 3%, while maximum employment will be reached by year end or sooner. That will lift wages and inflation. Lags in monetary policy argue for raising rates sooner rather than later: “Overshooting our target would force us into a much more dramatic rate hike to reverse course, which could have a destabilizing effect on the markets and possibly damage the economic recovery.” Regarding the timing of the Fed’s lift-off, Williams said: “assuming that things unfold along the lines I’ve forecast, I think that by midyear it will be the time to have a serious discussion about starting to raise rates.” After the first hike, he prefers a safer course by gradual rate increases. The Fed governor made his comments this morning in thin Asian trading. There was no reaction ahead of the payrolls and because Williams was already hawkish earlier this year.

Overnight, news flow was thin. Most Asian stocks trade positive with Japan outperforming and China underperforming. The US Note future trades stable suggesting a neutral opening for the Bund.

Today’s trading could be very dull ahead of the payrolls. Consensus expects another strong reading (235K), with risks on the downside of expectations. If it disappoints, it would be positive for US Treasuries. However, like with the Yellen testimony, we don’t expect any rebound to extend beyond 128-04+. We would rather see it as an opportunity to enter short positions. As eg Fed Williams said yesterday, the US economy is “downright good”. A weaker payrolls report would be the proverbial exception to the series of strong payrolls reports. In case of a better reading and/or stronger wage data, a test of the lower bound of the sideways range (126-12) is likely with chances on a break depending on the data strength. Longer term, we hold our June rate hike call and think there is more downside in the Note future as markets are positioned more dovish.

In EMU, the ECB starts sovereign bond purchases on Monday. Yesterday’s post-ECB reaction supports our view that the QE-programme caps upward potential for EMU bond yields.