German Yield Curve to Steepen Further on ECB QE Limits, UBS Says

  • UBS predicts ‘steepening bias’ to curve on ECB stimulus tweaks
  • Two- to 30-year yield gap closed Monday at widest since May

It’s crunch time for the European Central Bank, according to analysts at UBS Group AG, as the institution needs to address the issue of whether to extend its asset-purchase program.

While talk of the ECB paring quantitative easing has waned, speculation has mounted that it will hit scarcity constraints as it tries to buy the required amount of German bonds. This will weigh on longer-term bunds and steepen the yield curve, according to Nishay Patel, a London-based fixed-income strategist at UBS. The yield difference, or spread, between Germany’s two- and 30-year securities closed Monday at the widest since May.

“Rates markets are currently pricing in a very dovish outlook for ECB monetary policy and euro-area fundamentals, setting a high bar for the ECB to deliver a more dovish outcome than what is already priced in,” Patel wrote in a client note Tuesday. “Our assessment of potential changes to the ECB’s QE program points to a steepening bias on the yield curve.”

Germany’s 30-year bund yield fell four basis points, or 0.04 percentage point, to 0.66 percent as of 4:25 p.m. London time. The 2.5 percent security due in August 2046 rose 1.449, or 14.49 euros per 1,000-euro ($1,107) face amount, to 149.821. The yield climbed to 0.70 percent on Monday, the highest since June 24, the day Britain’s decision to leave the European Union became known.

Steep Curve

German two-year note yields were little changed at minus 0.67 percent, leaving the yield gap between the securities at 132 basis points. The spread ended Monday at 136 basis points, its highest close since May 31.

There’s “good value” in “being underweight long-end German bonds on a cross-market basis, particularly versus the U.K.,” Patel said. “Other things being equal, an extension to the QE program that is less than six months would be seen as a hawkish outcome, resulting in a steeper curve and higher yields.” An underweight position means that a fund holds fewer of the securities than contained in the benchmark it uses to track performance.

He forecasts that the ECB will announce a six-month extension to the asset-buying program from the planned March 2017 expiry at its December policy meeting and that the benchmark 10-year bund yield will climb to 0.15 percent by year-end, from about 0.03 percent Tuesday.

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