EURi: Rhine and market both illiquid; FRF whacked as bill passes

Drought illiquidity 10 Jun 2021
Both the Rhine and the euro inflation market were deemed illiquid today as the curve bull-flattened. Meanwhile French inflation continued to suffer.

Start a free trial to read this article

Join today to access all  Total Derivatives content and breaking news. Already a subscriber? Please Log In to continue reading.

Or contact our Sales Team to discuss subscription options.

Get in Touch




  • Rhine and market both illiquid; FRF whacked as bill passes

  • SocGen: Long 2y2y, B/E flatteners and/or iota longs  



    Rhine and market both illiquid; FRF whacked as bill passes

    The Euro inflation curve continued to flatten today although, unlike yesterday, the long end gained along with the very front.


    Dealers warned of illiquid and “dislocated” August markets with some linkers moving 3bps away from their peers on the back of not very much. However, they blamed the strong performance of the front end (in euro) on fresh concern about supply chain issues and the impact on German inflation in particular after critically low levels of water in the Rhine sent barge rates soaring.


    And while Brent is down two dollars and testing $98  after OPEC+ agreed a 100K increase in production, inflation dealers stressed the volatility of oil prices today and the “modest” size of the increase.  


    EUR 1y swaps rose strongly again to end around 6.64% (+11bps). Further out EUR 10y edged above 2.50% (+4.5bps) and while flattening restrained the forwards,  EUR 5y5y tested 2.10% again before slipping to 2.0925% (+3.5bps) at the close.


    In contrast, FRF inflation swaps (and OATi) continued sharply to underperform EUR as the problems in the Rhine were seen mainly affecting German inflation.


    In addition, the French parliament today approved a €20bn “emergency” purchasing power bill. FRF-EUR 10y collapsed to around 21.5bps after trading at 29bps yesterday as French inflation fell across the curve and OATi real yields rose by 4-8bps. The government’s bill keeps a price cap on gas and electricity prices and also caps rent increases at 3.5%, with the existing fuel rebate increased to 30 cents a litre in September and October, from 18 cents.


    In the background, gas futures are 3% lower while TIPS breakevens are 1-3bps wider after the refunding announcement and hawkish Fedspeak. The euro Stoxx is +1% and BTPs are outperforming 10y Bunds by almost 10bps as the German curve bear-flattens, with the future 1.2 points lower and Bund asset swap spreads as much as 2.5-5.0bps tighter.   


    Ahead, Spain sells €250-750m of the SPGBei-33 tomorrow and although the bond underperformed as the curve continued to build some concession for the supply, dealers reckoned that more was required for the auction to go well. They added that OATei were rich on iota and still expected French supply in August, despite the cancellation of this month’s Italian linker auction.  


    SocGen: Long 2y2y, B/E flatteners and/or iota longs  

    Inflation research from SocGen recommends new tactical longs in EUR 2y2y at 1.92%, staying long in EUR 5y5y (albeit with “less potential upside” now), receiving 2024-2025 inflation vs paying the long end in a breakeven flattener, and/or iota longs. The bank explains:


      “A recession, now looking increasingly likely, is not incompatible with inflation staying high, especially if the recession is caused by massive disruptions in the supply of gas.”


      “Lagged effects from the pass-through of higher input prices and disruptions in global value chains could see inflation running at 5-7% in the euro area amid a recession…How durable stagflation is, however, will be highly dependent on the growth trajectory and core  inflation. For now, the risk is for inflation curves to bull flatten further.”


      “If energy inflation does go through the roof again (and we expect more pressure into Q4 2022), linkers should find favour among portfolio managers and breakevens should rise, especially for shorter maturities. However, we are relatively cautious, for two reasons. First, barring a quick plunge into recession, real yields will find it more difficult to rally with the ECB still hiking rates, and longer-dated breakevens could suffer if the likelihood of recession increases. Second, a gas-induced rise in inflation may not push longer-dated breakevens much higher.”


      “Given the event risk of further cuts in Russian gas supply, we think it makes sense to be tactically long maturities like 1y1y and 2y2y HICP, which are priced for a quick correction in inflation but should benefit from this event risk and investors positioning for it (1y already priced high).”


      “Stay the course with long IOTA trades for now…Given the relatively limited supply during August, there are no scheduled auctions in BTPei or DBRei,  and we are only expecting a small ‘special’ auction from the French Treasury.”