Germany’s failure to sell all the bonds on offer at yesterday’s auction saw the market rife with fears that this means that even Germany is having trouble selling its debt to nervous investors. But the reasons for the poor auction were probably more varied and subtle, ranging from the fact that Bunds are just very expensive right now, Germany’s insistence on issuing a large initial tranche and the reluctance of market makers to have the inventory on their books at this time of year.
Some were citing the fear that Germany could be on the hook for a whole host of other countries’ debts, the European Commission’s options for eurobonds also having been published yesterday. This could become a more entrenched fear, but at the moment it’s a peripheral one for investors. Germany remains the safest and most liquid place for eurozone bond investors and will remain so.
Guest post by FxPro
Commentary
Keep calm and carry on. Yesterday saw the German central bank taking nearly 40% of the Bund issuance on offer onto its books and EUR/USD move around half a cent lower. Now, this is a normal practice in Germany at auctions. The Bundesbank routinely takes some and sells it back to the market over time. The average of this portion in auctions since ’99 has been around 20%. Back in late ’08 and early ’09 it retained over 30% at a couple of auctions. So, it is out of the ordinary but not a total curve ball. The fact that investor demand was disappointing (total bids of EUR 3.89bn for EUR 6bn on offer) reflects a number of factors. Firstly, bund yields are barely 2% at 10 years. Just as peripheral debt has sold off massively, bund yields have been pushed substantially lower, probably beyond what the ‘fundamentals’ warrant. But German bonds, as with many other markets at this time, are being impacted primarily by investors’ positioning, regulatory requirements and liquidity – less by more entrenched valuation approaches (such as a negative real yield). Does it reflect a lack of faith in Germany’s ability to pay back its debt? No, and it’s too early to tell whether investors are genuinely concerned that Germany could become the banker for the rest of Europe. But with the proposal for common bonds now on the table ahead of next month’s summit, it is a concern that could well gain increased traction in the coming weeks.
Dollar impetus from Fed’s stress tests. Apart from the euro, the biggest casualties during this latest phase of dollar strength are the high-beta currencies. The Aussie was down a further 1% yesterday, just above 0.97, a loss of almost 10% over the past four weeks, and the Norwegian krona has dropped 8% over the same period. While Europe burns, it remains the dollar that is making hay. Apart from the continuing urge to reduce risk, investors have been encouraged by the revelation that the US fiscal super-committee failed, which will trigger automatic and sizeable deficit reductions over the next couple of years. A further factor supporting the dollar today is the news that the Fed has signalled to US banks its desire to conduct extremely rigorous stress tests. On Tuesday, 31 of the major US banks were told to evaluate how their loan books would cope with a deep recession, involving an unemployment rate of 13%, a 52% decline in US equity prices (from the end of Q3) and an 8% contraction in the size of the economy. Very extreme perhaps, but not completely beyond the bounds of possibility particularly if Europe and the euro descend into complete chaos. As such, the fact that the Fed is prepared to put these banks through their collective pain barrier is an encouraging sign and one that aids credibility, for both the banks and the dollar.
The impending eurozone recession. The level of the PMI readings seen in the eurozone yesterday suggests that a recession is more likely than not over the turn of the year. The manufacturing reading in the provisional November data was below the 50 level of the third consecutive month in a row. On top of this, we are also witnessing a credit crunch in the eurozone as banks aggressively de-leverage to meet impending revised capital requirements, adding to the likely duration of the upcoming slowdown, which will likely last at least until the middle of next year. At the same time, PMI readings in China have increased concerns of a more synchronised global slowdown. This is probably more a short-term fear than one that holds up on the wider view.
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