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Bond Bears Battered by Recent Rally See Renewed Sign of Selloff

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  • Commerzbank, SocGen, Credit Agricole see bull run ending
  • Ten-year bund yields below 0.5 percent makes securities rich

UBS' Briscoe Sees Markets Worried Over Q1 Softening

The latest rally in euro-area debt is finally running out of steam for Europe’s bond bears.

After a run of “remarkable” gains since February, Commerzbank AG suggests tactical short positions in German bunds, while Societe Generale SA says it is waiting for the next “bearish wave” as the euro region’s recent poor run of data wanes. Credit Agricole SA recommends taking profit on its bullish trades.

“We have held a long-duration position since the beginning of February as valuations appeared to be oversold and market positioning was short,” Credit Agricole’s global head of rates strategy Mohit Kumar wrote in a note to clients. “The recent rally in fixed income has brought valuations close to fair levels and market positioning from fast-money accounts has moved closer to neutral.” The bank is closing its flattener and long forward position in the euro curve, Kumar said.

Benchmark German 10-year yields ended the first quarter up just seven basis points from the start of the year, having been almost 40 basis points higher six weeks into 2018. Economic releases in the euro region have disappointed since mid-February, with Citigroup’s Surprise Index showing data trailing behind economists’ expectations by the most since March 2016. Meanwhile global stocks -- particularly those in the technology sector -- have slumped, spurring a haven bid in European bonds.

Rate Expectations

That has helped to push back expectations for the first increase in the European Central Bank’s deposit rate into the second half of 2019, from around March shortly after the ECB’s February policy meeting. Money markets are pricing in less than 30 basis points of hikes next year, keeping the deposit rate below zero, which is too pessimistic for Societe Generale.

“This is now looking excessively dovish, even taking into account the ECB’s extreme prudence,” wrote SocGen strategists led by Adam Kurpiel. A bottoming out of negative economic surprises “should curb bullish bond forces and ultimately reassert a bearish bias.”

The yield on German 10-year bunds fell one basis point to 0.49 percent as of 11 a.m. in London, compared with 0.81 percent reached in February.

Bond bears have been repeatedly punished in the past few years as central banks have pumped money into the global economy, while inflation has proved reluctant to respond. With growth picking up, investors may still have to wait a little while yet for the tide to turn with the ECB still to formalize the end of its asset purchase program and give guidance on the future path of interest rates. April is also set to be a supportive month for European bonds, with more than 100 billion euros ($123 billion) of debt due to be repaid.

Haven Bid

Escalating tensions over a trade war between China and the U.S. sparked a moderate haven bid in bunds Wednesday, though the move was muted due to valuations already being stretched, according to ING Groep NV.

“Much of this was either priced in or investors still hope that the current tit-for-tat won’t morph into a full-blown global trade war,” said ING Groep NV strategist Martin van Vliet. “Bunds are already slightly overbought on our metrics.”

Similarly, Commerzbank believes that the rally has rendered German securities expensive and recommends tactical short positions in the securities, as inflation begins to pick up. Consumer prices rose 1.4 percent in March from a year earlier, the highest level since December, while the core rate held at 1 percent.

“The latest leg higher in bunds is remarkable,” strategists Christoph Rieger and Michael Leister wrote in a note to clients last week. “The safety bid joins the other supportive factors, but we see several reasons that the momentum will run out.”

(Adds trade war tension from ninth paragraph, inflation data in penultimate paragraph.)
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