David Tan has a reminder for those scenting blood in euro-area bonds: European Central Bank purchases have barely gotten started.
Led by President Mario Draghi, the ECB is mopping up 60 billion euros ($67 billion) of debt a month and plans to continue the purchases through September next year. The force of the buying may yet pull yields lower, according to Tan, the London-based head of rates at JPMorgan Asset Management.
That’s a deterrent for traders betting this week’s bond-market selloff, which sent German yields up by the most since August 2013, spells an end to record-low borrowing costs in the region. Among those agitating for a slump in bond prices are DoubleLine Capital LP’s Jeffrey Gundlach, who said he’s considering making an amplified bet against short-dated notes, and Janus Capital’s Bill Gross, who said bunds were the “short of a lifetime.”
“I respect what they say, but against that you’ve got the ECB on the other side of the trade,” said Tan, whose company oversees $1.7 trillion. “We’re reluctant to say that we have definitely seen the low in yields.”
German 10-year yields, the region’s benchmark, rose 17 basis points, or 0.17 percentage point, this week to 0.33 percent at 10:28 a.m. London time on Thursday. And apart from Greece, no market has been spared: Spain’s five-year note yield jumped seven basis points to 0.65 percent while France’s 30-year yield leaped 26 basis points to 1.32 percent.
Large though the moves have been, Germany’s 10-year yield remained lower than the close on March 6, the last trading day before the ECB began buying government securities as part of its expanded quantitative-easing program. While the yield is up from the record low of 0.049 percent set April 17, it’s almost 1.5 percentage points below the five-year average. Germany’s two-year note yield was minus 0.24 percent.
One argument for higher yields is the potential for price growth to revive in the euro area, eroding the value of fixed payments on bonds. Data released Wednesday showed the annualized rate of German inflation rose to 0.3 percent this month from 0.1 percent in March, based on European Union-harmonized data.
Euro-area consumer prices stagnated in April after falling for four straight months, a report showed on Thursday, in line with estimates of economists surveyed by Bloomberg. The ECB’s target is for inflation to be just under 2 percent.
“We still think that in Europe at least, we’re not going to have a dramatic turn on in inflation, and that the ECB buying should continue to dominate,” said Bert Lourenco, the London-based head of Europe, Middle East, and Africa rates research at HSBC Holdings Plc, Europe’s largest lender. “Longer term, we’re still constructive” on euro-area bonds, he said.
Not everyone shares his view. Gundlach discussed potential returns on a bet against German notes in a Bloomberg Television interview on April 28. “You talk about something that has horrible risk-reward characteristics, it’s these negative interest rates” on European bonds, he said.
Allianz Global Investors, which manages 412 billion euros, sees euro-area yields following their U.S. peers higher as the Federal Reserve moves closer to raising interest rates, though ECB purchases will moderate the move.
“We expect yields to edge up in the coming months,” said Stefan Hofrichter, head of global economics and strategy for Allianz Global in Frankfurt. “Given the quantitative-easing policy of the ECB we have not implemented strong duration bets but we may consider changing it at this juncture.”
U.S. 10-year notes yielded 173 basis points more than similar-maturity German bonds on Wednesday. The five-year average is 62 basis points.
For JPMorgan Asset Management’s Tan, the ECB’s purchases will continue to weigh on bond yields until there are clearer signs of economic growth in Europe.
“Nobody thinks that 10-year German yields should be at 25 basis points in the long term,” he said. “In order to call the bottom, we do need to see a bit more evidence on inflation and inflation expectations as well as growth.”