One day after an unprecedented, record crash in Italian 2Y bonds and a rout across the entire bond curve as well as Italian stocks, which proceeded to spill out and impact other European banks and “contage” the Euro amid a growing political crisis in Rome, Italian bonds rebounded in early European trading as the panic liquidation was put on hold for now, sending 2Y Italian yields as low as 1.925% after hitting a 5 year high of 2.84% on Tuesday.
Meanwhile, the 10Y yield also faded as buyers emerged for the benchmark Italian BTP, which was last trading just above 3.00%…
… after Italy successfully sold five- and 10-year debt in a closely watched auction, helping reassure jittery markets after this week’s hair-raising meltdown in Italian bonds amid the ongoing political crisis.
The debt office sold €5.6BN in bonds this morning including €1.82BN worth of 10-year bonds. And with a bid-to-cover ratio of 1.48 times, the highest since December, SocGen said that while demand for the bond auction held up, pricing was mixed noting that in terms of pricing, “you have an underbidding of 25c on the 2028 and an overbidding of 24c on the 2023 issue so a mixed message.” He added that “they have issued much less than the 4 billion euro target it seems but it is not necessarily a big deal” and as a result there was “very little displacement in intraday yields because of the supply.”
“The overnight news flow is less bad and the chances are good that today’s auctions will pass smoothly, so yesterday’s volatility spike is easing,” Commerzbank AG strategist Christoph Rieger told clients, adding that a 10-year yield spread of 300 basis points over Germany is likely to add key support. “The intraday panic spike yesterday above this level was bought, which is encouraging.”
Helped by the solid auction uptake, the spread between Italian and German 10Y yields, which hit a whopping 320bps yesterday, has dipped around 20bps from Tuesday’s close and was last seen at 271bps.
The bid in Italian bonds also helped stabilized Italian stocks, with the FTSE MIB up nearly 1% in generally illiquid trading.
On Wednesday morning, Italy PM designate Cottarelli met again with Mattarella at the Qurinale today, with no press release post the meeting. This is after ANSA reported that Cottarelli was considering giving up the mandate, allowing for a possible election on July 29th, but a source close to Mattarella later stated there was no mention of this and that he asked for more time to name a cabinet. Comments from the populists also transpired, with calls for early elections and the backing of Giorgetti for PM by the League and Conte by 5SM. Both parties also reiterated the intention to form a government but have emphasized the likelihood of a snap election.
Meanwhile, the lack of new news and the solid Italian auction led to a rebound in risk assets in both Europe and the US, where S&P futures were last trading 12 points higher after yesterday’s sharp drop.
In the clearest sign that the Italian “panic liquidation” contagion which led some dealers to pull quotes resulting in an inefficient market and bid/ask spreads that exploded over the past 3 days…
… has been put on hold, the euro looked to erase Tuesday’s drop against the dollar as Italy’s bonds stabilized even amid signs that last-ditch efforts by populist leaders to form a government may prove unsuccessful. As shown below, the Euro rose above 1.1600, erasing almost all of Tuesday’s plunge, even as League leader Matteo Salvini called for early elections without revealing who he might form an alliance with.
The Euro was also boosted by German jobs data which topped estimates coupled with several CPI beats in several German states as well as in Spain, all of which added momentum to a bounce in the euro.
Ironically, the euro strength weighed on equities, especially Germany’s export-heavy names, and the Stoxx Europe 600 Index slipped even as S&P 500 futures pointed to a higher open in New York. Earlier, financial shares led the MSCI Asia Pacific Index down as the region played catch up to the previous day’s selloff.
Meanwhile, as Europe’s panic eased, U.S. 10-year bonds gave up some of their gains from Tuesday to send yields back above 2.8 percent, rising as high as 2.86%
Helping the emerging markets, the dollar slipped against all Group-of-10 peers and the euro entered a recovery phase in the London session, rising as much as 0.6% against the dollar.
In other FX news, Sweden’s krona was the top G-10 performer, after suffering the most during yesterday’s risk-off move, supported by stabilizing risk sentiment and solid growth data. The yen and the Swiss franc consolidated against the dollar following yesterday’s haven- inspired demand from Italy’s political crisis. Italian bonds held gains after Rome-based debt office sold EU5.6b total of securities, including 5- and 10-year bonds, with demand for 10- year debt rising to the highest since December
In geopolitical news, White House Press Secretary Sanders said US President Trump thinks discussions with North Korea are proceeding well and added the White House prepared for summit to take place June 12th. North Korea renewed its demand for US and South Korea to cancel military exercises in August, while there were also unconfirmed reports that North Korea was said to have conducted a torpedo test during talks with South Korea and US, although timing is uncertain. Furthermore, Axios noted a CIA assessment report which stated that North Korea will not denuclearize. Russian Foreign Minister Lavrov will visit North Korea tomorrow.
Commodities were steady during early European trade with WTI crude futures marginally higher after somewhat choppy Asia trade and with resistance at the USD 67/bbl level, while focus for oil now shifts to the API inventory report after-market in US which was delayed due to the extended weekend.
Gold was s trading flat, now back below the 1300 level as the risk premium starts to unwind following yesterday’s safe-haven bid. Meanwhile, London copper (-0.8%) flirts around three-week lows on the broad-risk averse tone seen during Asia-Pac trade amid underperformance in its largest consumer China.
Expected events include first-quarter GDP and the Fed’s Beige Book. Michael Kors, Analog Devices and Guess are among companies reporting earnings.
Bulletin Headline Summary from RanSquawk
- Italian politics still dominate European markets as political turmoil continues
- EUR/USD back above 1.16 after upticks in regional German CPIs
- Looking ahead, highlights include, US ADP, GDP, Advance Good Trade Balance, BoC Rate Decision, APIs
- S&P 500 futures up 0.3% to 2,700.50
- STOXX Europe 600 down 0.06% to 384.24
- MXAP down 1.3% to 170.69
- MXAPJ down 1.3% to 556.88
- Nikkei down 1.5% to 22,018.52
- Topix down 1.5% to 1,736.13
- Hang Seng Index down 1.4% to 30,056.79
- Shanghai Composite down 2.5% to 3,041.44
- Sensex down 0.3% to 34,847.50
- Australia S&P/ASX 200 down 0.5% to 5,984.73
- Kospi down 2% to 2,409.03
- German 10Y yield rose 6.7 bps to 0.327%
- Euro up 0.5% to $1.1597
- Italian 10Y yield rose 47.4 bps to 2.891%
- Spanish 10Y yield fell 0.4 bps to 1.617%
- Brent Futures down 0.5% to $75.76/bbl
- Gold spot up 0.06% to $1,299.60
- U.S. Dollar Index down 0.4% to 94.43
Top Overnight News
- The Socialists, Spain’s biggest opposition party, are negotiating on two fronts for the support they need to oust Prime Minister Mariano Rajoy in a no-confidence vote Friday, according to people briefed on the talks
- Italy may be headed toward snap elections as early as July after the latest attempt to form a government saw premier-designate Carlo Cottarelli leave a meeting with the president without an agreement on a cabinet team. It feels like 2012 again as European markets shudder over Italy
- President Donald Trump said he’s moving ahead with plans to impose tariffs on $50 billion of Chinese imports and curb investment in sensitive technology, ratcheting up pressure on Beijing days before the next round of trade negotiations. China’s commerce ministry said U.S. announcement is both surprising and within expectations
- The White House announced a flurry of final preparations for Trump’s planned summit with North Korean leader Kim Jong Un including a meeting with Japan’s prime minister as it signaled confidence the meeting will proceed
- The latest bout of market turmoil is denting investor confidence in how aggressively the Federal Reserve will tighten policy this year
- Turkey is prepared to raise interest rates again if inflation accelerates, according to two money managers who met with Turkey’s central bank Governor Murat Cetinkaya and Deputy Prime Minister Mehmet Simsek in London Tuesday
- After being the market darlings for two years, high- yield bonds from developing nations are becoming unpopular
- German unemployment fell to a fresh record low as companies in Europe’s largest economy stepped up hiring to work through backlogs even amid signs of slowing growth
Asian stocks traded lower across the board on spill-over selling from Wall St, with global market sentiment daunted by political uncertainty in Europe and trade concerns after reports the US plans to proceed with tech tariffs and investment restrictions on China. ASX 200 (-0.6%) and Nikkei 225 (-1.6%) were both negative with declines led by financials following hefty losses in the sector stateside which dropped over 3% amid a slump in yields, although losses in Australia were stemmed by gains in defensive stocks. Elsewhere, Shanghai Comp. (-1.8%) and Hang Seng (-1.5%) underperformed on prospects of trade tariffs which outweighed another consecutive firm liquidity effort by the PBoC. Finally, 10yr JGBs traded higher and above the 151.00 level as yields tracked the downside in their US and most European counterparts, aside from Italian government bonds which tumbled on the political disarray and dampened rate hike probabilities for both the ECB and Fed. China stated the US announcement of plans to proceed with tariffs is contrary to previous consensus and stated it is capable of protecting its own interests no matter what the US does. In related news, there were also reports that the US is said to plan imposing restrictions on some China visas.
Top Asian News
- Hedge Fund Giant Sees More Pain to Come for Indonesian Debt
- Bank Indonesia to Soon Ease Macroprudential Norms, Warjiyo Says
- Oasis’s Fisher Urges Japan Asset to Pay Dividend, Change Board
- Bank Indonesia’s New Governor Stamps His Mark With Rate Hike
- China Says Trade ‘Flip-flop’ Risks Depleting U.S. Credibility
European equities have traded in a particularly choppy fashion with the FTSE MIB fluctuating between gains and losses (+1.0%) as markets remain sensitive to the latest developments in Italian politics. Broadly, investors are reassessing the likelihood of an Italian departure from the EUR after yesterday’s market frenzy, but the outcome of negotiations remains far from clear. Some Italian bank stocks continues to suffer with Bper Banca (-0.7%). Elsewhere, Vivendi (-4%) shares are lower on the loss of broadcasting rights for the French football league, while Bayer (+3.8%) received US approval for the Monsanto takeover, lending support to their shares.
Top European News
- Four Italian Banks Cut at BofAML on ‘Messy’ Political Situation
- Orix Ready to Spend Almost $1 Billion on European Clean Energy
- Europe Must Counter ‘Rampant’ Populism, EU’s Juncker Says
- German Joblessness Falls to Record Low Despite Signs of Slowdown
- Oil Can Still Win Its Tug-of War With Ruble Over Tenge’s Future
In FX, a marked change in fortunes for the EUR on a combination of firmer than expected macro releases (German retail sales, state CPIs, jobs and Spanish inflation) and further respite in Italian markets, with the single currency eclipsing Tuesday’s recovery high vs the USD and reclaiming the 1.1600 handle at one stage. However, Italy’s political situation remains up in the air after no progress on an interim Government and heightened prospects of another election within the next few months. Hence, safe-havens like the JPY and CHF retain a firm underlying bid (circa 0.9900 and sub-109.00 vs the Greenback and sub-1.1500/126.00 vs the Eur respectively) despite more verbal intervention from the SNB (Jordan reiterating the need for NIRP and direct intervention given fragile currency markets). NZD/AUD the next best G10 performers, or rebounders from recent lows to be more precise, as the antipodeans revisit 0.6900+ and 0.7500+ levels vs the Usd respectively amidst a general improvement in risk sentiment, which has offset data misses overnight (in the form of NZ and Aussie building permits). GBP/CAD both largely side-lined, but also unwinding some losses with Cable back over 1.3250 and the Loonie firming towards 1.3000 ahead of the BoC policy meeting and a raft of Canadian data in the run up.
In commodities, WTI crude futures are marginally higher after somewhat choppy Asia trade and with resistance at the USD 67/bbl level, while focus for oil now shifts to the API inventory report after-market in US which was delayed due to the extended weekend. Gold is trading flat, now back below the 1300 level as the risk premium starts to unwind following yesterday’s safe-haven bid. Meanwhile, London copper (-0.8%) flirts around three-week lows on the broad-risk averse tone seen during Asia-Pac trade amid underperformance in its largest consumer China.
Looking at the day ahead, the flash May CPI report for Germany and Spain (2.1% vs 1.7% yoy expected), along with the preliminary Q1 GDP release in France and May confidence indicators for the Euro area are due. In the US we’ll get the second revision to Q1 GDP along with May ADP employment change, April advance goods trade balance and April wholesale inventories data. The Fed’s Beige Book will also be out in the evening while the Fed is also scheduled to discuss changes to the Volcker Rule.
US Event Calendar
- 7am: MBA Mortgage Applications, prior -2.6%
- 8:15am: ADP Employment Change, est. 190,000, prior 204,000
- 8:30am: GDP Annualized QoQ, est. 2.3%, prior 2.3%; Personal Consumption, est. 1.2%, prior 1.1%
- GDP Price Index, est. 2.0%, prior 2.0%; Core PCE QoQ, est. 2.5%, prior 2.5%
- 8:30am: Advance Goods Trade Balance, est. $71.0b deficit, prior $68.0b deficit, revised $68.3b deficit
- 8:30am: Retail Inventories MoM, prior -0.4%, revised -0.5%; Wholesale Inventories MoM, est. 0.5%, prior 0.3%
- 2pm: U.S. Federal Reserve Releases Beige Book
- 3pm: Fed to Hold Board Meeting to Discuss Volcker Rule Changes
DB’s Jim Reid concludes the overnight wrap
Another incredible day for Italy, especially 2 year yields which closed +184bps higher to 2.70% and back to H2 2012 levels. All things considered though, global risk assets were ‘relatively’ resilient given this extraordinary move. Nevertheless 2 year government yields really aren’t meant to behave like this. In the G7 plus Spain (thrown in for good measure), we can only find one day over the last few decades (where we have daily data) with a +100bps plus closing move in a 2 year government bond. That was the +146bps move in the US inspired by the Volcker Fed on 4th October 1982. So we have eclipsed this and that was only interest rate related and not a credit move. Also worth highlighting that 2yr BTPs were in negative yield territory (where they had been for all of the last year) until May 8th and were as low as -0.21% in early May. 10yr BTPs were +75bps at the highs (3.41%) for the day yesterday but eventually closed +47.6bps higher at 3.148%. 10yr Bunds traded as low at 0.185% and 2yr at -0.83% before closing at 0.257% (-8.4bps) and -0.779% (-9.8bps) respectively. These are yield levels for an economy that has consistently been averaging just over 3.5% nominal GDP growth in recent years.
On a relative basis, the 2y Italian bond spread to Bunds surged 194bp to the highest level since August 2012 (349bp), while the 10y spread widened 56bp to 289bp – highest since July 2013. Meanwhile, Italy’s 5y sovereign CDS jumped 104bp to the highest in c5 years (269.5bp). Italian auctions will be a key event this morning with the debt office planning to issue up to €1.75bn 5-year bonds, €2.25bn 10-year debt and €2bn of 2025 FRNs.
The preference for safe haven assets and a potentially less hawkish Fed boosted US Treasuries, with yields on UST 10y down the most since the 2016 Brexit vote to 2.781% (-15bp). Yields are now back to mid-April levels and represent a 33bp decline from c2 weeks ago. Elsewhere, core European bonds were also in vogue with 10y yields for Gilts (-12.8bp) and OATs (-4.5%) both down while peripherals underperformed in sympathy (Spain +8.6bp). Portugal was relatively resilient as 10y yields jumped +46.1bp intraday but closed +11.8bp later on.
Global equities weakened and credit spreads widened given the risk off tone, but overall contagion seemed to be relatively limited yesterday. Key European bourses traded c1.5% lower (Stoxx 600 -1.37%; DAX -1.53%; FTSE -1.26%) while the Italian (-2.65%) and Spanish (-2.49%) markets led the losses. Within the Stoxx, the bank index was hit the hardest (-3.19%) with Italian banks leading the decline with Unicredit and Intesa down -5.6% and -4.1% respectively. The weakness in banks did spread to the US too with the sector down -4.0%, although they were also weighed down by lower US yields and softer guidance statements. For example, Morgan Stanley dropped -5.8% as it noted its wealth management division’s revenue growth slowed in the last three months while JP Morgan guided to flat yoy markets revenue for 2Q (-4.3%). Meanwhile, the iTraxx Main widened +7.5bp while the Crossover and Sub-Financials index widened 20.6bp and 42.4bp respectively.
In the US, the S&P 500 closed -1.16% which again saw losses relatively well contained given the unique magnitude of the Italian 2yr move. However this now makes it 33 days in 2018 when the S&P 500 has moved by at least 1% up or down (just under a third of all sessions). In 2017 there were only 8 such occasions when this happened (3% of all trading days). Elsewhere, the VIX jumped 28.7% back to mid-April levels (17.02). So yet another reminder that 2018 isn’t 2017!!
Anyway the latest news on Italy is that Cottarelli’s technocratic Government looks increasingly unlikely to get formed as pressure from all parties mounted for fresh elections as soon as possible, with the fear being the election could become a referendum on the Euro. Elsewhere, Mr Cottarelli left a meeting with the President without an agreement on a cabinet team yesterday, in part reflecting the difficulties in forming a new government. To paraphrase a famous saying, to lose one potential Prime Minister is careless but to lose two in 3 days is quite extraordinary.
If we do go to elections on July 29 or early August as per Ansa, much will depend on how the populists campaign on the topic of the Euro. In last month’s election, leaving the Euro didn’t come up as an issue. This fear has only really emerged by concerns of a secret plan B to leave which underpinned the rejection of populist proposed finance minister Paolo Savona over the weekend. If the populist continue to stress their desire to stay within the Euro then this goes back to being more about their spending plans and the slow burning clashes with the EU. Interestingly Salvini yesterday denied any “immediate” plans to leave the EU bloc, and added “our proposals don’t include leaving the EU or Euro, but a renegotiation of the rules….we wouldn’t have gone to Europe to make a mess but to say: we are Italy”.
Staying with the Italian election, DB’s Clemente De Lucia believes the evolution of opinion polls over the next few months would be key to understand if such a confrontation is bearing fruits to the populist parities or if is backfiring. His timely note provides a summary of questions he has received concerning the recent Italian developments.
This morning in Asia, markets are following the US leads and trading lower with the Nikkei (-1.53%), Kospi (-1.74%), Hang Seng (-1.41%) and Shanghai Comp. (-1.77%) all down. Elsewhere, the yield on UST 10y are back up c3bp while futures on the S&P are down marginally. Datawise, Japan’s April retail trade was above market at 1.6% yoy (vs. 1% expected).
Now recapping other markets performance from yesterday. The US dollar index firmed for the third straight day (+0.43%) while the Euro fell -0.73% to the lowest since July 17. In commodities, WTI extended losses (-1.69%) while precious metals softened modestly (Gold -0.02%; Silver -0.66%).
Turning to the Fed, DB’s Peter Hooper does not expect recent events in Europe, even with some further intensification, to cause the Fed to put off its widely expected rate hike on June 2. However, it could result in a softening of the message that accompanies that hike. Such softening could include staying put with a median expectation of three hikes this year instead of moving to four, with prospects for individual dots to move lower. The bigger uncertainty for Fed policy will come around the September FOMC meeting, if Italy’s next election occurs ahead of that meeting. See Peter’s note for more.
Staying with the US, trade tensions with China are resurfacing ahead of next weeks’ trade talks (the 3rd round). Overnight, the White House said a final list of tariffs on $50bn of Chinese imports will be released by 15 June and the tariffs will be imposed “shortly thereafter”. Further, new restrictions on Chinese investments will be announced by June 30 and also implemented shortly after. On the other side, China’s Commerce Ministry said the US announcement was both surprising and within expectations, but China is “confident….and has the experience to protect its interests”.
Turning back to Spain, DB’s Marc de-Muizon noted that while political uncertainty has dialled-up back up again, he noted that the country does differ from Italy – i) Spain has weathered electoral and political uncertainty in recent years relatively well, ii) a clear majority of the electorate supports mainstream pro-EU parties and iii) the current economic momentum remains strong. In his latest note, he summarises the current Spanish political context, the latest developments and highlights potential scenarios going forward.
Before we take a look at today’s calendar, we wrap up with other data releases from yesterday. In the US, the May CB consumer confidence index rose 2.4pt mom to an in line print of 128. The mom improvement was mainly driven by the present situation index which rose 4.2pts mom to a fresh 17-year high of 161.7. The May Dallas Fed manufacturing index was above market at 26.8 (vs. 23 expected) with solid improvements in the production and employment indices. Elsewhere, the March S&P Corelogic house price index also beat with annual growth 6.8% yoy (vs. 6.45% expected).
The Euro area’s April money supply was in line at 3.9% yoy and after adjusting for sales and securitization, growth in household and non-financial corporate loans was steady at 2.9% yoy and 3.3% yoy respectively. Elsewhere, France’s May consumer confidence index was softer than expected at 100 (vs. 101) while Italy’s May reading edged down 3.2pts mom to 113.7 (vs. 116.5 expected).
Looking at the day ahead, the flash May CPI report for Germany (0.3% mom; 1.8% yoy expected) and Spain (1.7% yoy expected), along with the preliminary Q1 GDP release in France and May confidence indicators for the Euro area are due. In the US we’ll get the second revision to Q1 GDP along with May ADP employment change, April advance goods trade balance and April wholesale inventories data. The Fed’s Beige Book will also be out in the evening while the Fed is also scheduled to discuss changes to the Volcker Rule.