Pre-NFP strength in European fixed income has pulled German yields 4-5bps lower across the curve today with the 10y Bund approaching 1.75% for the first time since mid-September despite the risk from the looming US data and lingering concern about over-reaction to Powell’s recent comments. In the news, ECB Vice President Luis de Guindos said that he expects to see a "clear slowdown" in euro inflation in early 2023 along with a "high probability" of a Eurozone recession. Earlier comments from President Christine Lagarde focused on the need to anchor inflation expectations, with EUR 5y5y inflation currently 2.40% and at the upper edges of its six month range.
Asset swap spreads are 2-2.5bps wider at the front end versus 0-1bp richer in 10y and further out as IG and SSA issuance slows and December advances (although the EU is expected to print a deal next week).
Outright, EURIBORs are 5-6bps stronger in the reds alongside a rally in Eurodollars before the US job numbers while the euro swap curve is a bp steeper at 22.2bps in 2s/10s but flatter further out, with 10s/30s at -57.8bps (-1.0) and 30/50s at -46.2bps (-3.1). Meanwhile as banks look for the flies to drop in 2023 (see below), 2s/5s/10s has edged up to -23.3bps and 5s/10s/30s is 58.2bps.
Receive the flies: Banks
Recent moves in the flies plus views on the curve for 2023 have stirred bank research desks into action.
First up, SocGen suggests receiving the 2s/5s/10s fly with a target -35bp or 2s/10s/30s with a target of 20bps. Generally, the bank favours another leg higher for euro yields in Q1 23 alongside 5s/30s steepening ahead of early year EGB supply:
- “With the end of ECB rate hikes in sight, the EUR curve is entering its late-cycle dynamics, meaning a steepening of the long end relative to the front end. Yet it is too early for outright steepeners.”
“A material build-up of rate cut expectations is required to steepen the curve. The 2s/5s and 1s/2s segments have room to invert more, the 5s/10s and 10s/30s less so, especially with the ECB about to start QT. We see value in receiving 2s/5s/10s and 2s/10s/30s flies.”
Elsewhere, the team at BNP Paribas expects the 5s/10s/30s fly to correct downwards heading into 2023 and recommends receiving the belly in 6m forward 5s/10s/30s with a target of 25bps and a stop at 83bps.
- “5s/10s/30s fly currently looks high on both a historical basis and versus other regions such as the UK and US. Paying interest in the 10-20y sector – which is part of the reason why the 5s/10s/30s fly was so elevated in 2022 – should fall next year, in our view. We also expect rates volatility to fall as central banks shift from playing catch-up, to fine-tuning interest rate policy. Consequently, we expect the 5s/10s/30s fly, which is largely driven by the money market and rates volatility, to correct downwards.”
“10s/30s has bottomed out and could also normalise in 2023. However, this could take time to occur. Taking into account carry and roll, our view and valuations, we prefer to enter a 6m forward starting 5s/10s/30s trade instead of a 10s/30s steepener.”
New issues: EU
- The EU is expected to launch a syndication (CORRECTS) in the week beginning Dec 5 after sending an RfP to dealers on Nov 24.
- ELO SACA yesterday priced a €650m 6y at swaps +250bps via BNPP, CA, CIC, Natixis (B&D) and SocGen.
- Italy’s Illimity Bank (BB-) yesterday priced a €300m 3y at 6.625%. Leads are BNPP, GS and IMI (B&D).