Reversing ECB gains; How to position now
The Bund future has fully reversed yesterday’s post-ECB rally with the 10y future last down by 70 ticks and the 10y yield marked around 2.65% (+6bps).
Likewise, the 2s/10s swap curve has been quick to reverse most of yesterday’s flattening across 2s/10s with the market last at -57.75bps (+2.5bps). However, one trade that continues to perform has been long-end steepening with 10s/30s up another 1.25bp at -31bps and around 5bps steeper than yesterday.
Bund asset swap spreads have tightened in-line with the Bund sell-off with last prices vs 6mE, Schatz at 62.9bps (-0.6bp), Bobl at 63.1bps (-1.2bp), Bund at 59.4bps (-1.6bp) and Buxl at 23.4bps (-1.4bp).
Ahead, strategists at Barclays reckon the ECB “has provided the market with a green light to build on classic end-of-cycle trades.” It suggests the following trades:
Money markets: “At -70bps, we see more room for ERZ3-Z4 to flatten… we recommend breaking down this flattener into two trades: 1) paying Dec ECB (entry: 395bp) as a tail-hedge that the ECB has to hike again; and 2) receive 2y1y ESTR (entry: 2.73%, target: 2.50%, stop: 2.85%).”
Duration: “EUR duration has largely been in the passenger seat of the bond selloff. Domestic growth, inflation and policy dynamics have been exerting bullish impulses, which have been offset by bearish global factors. Today’s policy outcome should further strengthen the bullish dynamic and lower the beta of Bunds to external bearish shocks. We continue to see room for Bund outperformance vs. USTs to extend, with 180bp on the 10y spread being a realistic target.”
Curve: “We do not think it is time for structural 2s/10s steepeners. The curve is likely to bull-flatten before it starts to bull-steepen as rate cuts come closer on the horizon. However, the decision and the weakness of the recent data create room for belly and long-end steepeners to perform. We recommend EUR 5s/30s steepeners as a structural trade (entry: -42.5bp, target: -20bp, stop: -50bp).”
ASWs: “A key source of risk for the tightening trend in German swap spreads was any decision around non-monetary deposit remuneration. Our base case going into the meeting was that no such change should be expected, and Schatz ASW (vs. 6s) tightened by 2bp after the ECB maintained the status quo on this front. We continue to hold our tightening bias in swap spreads over the medium term, as increased collateral availability, easing repo market strains, a decline in excess liquidity, and reduced mortgage paying on the back of a slowing economy all work their way through the market.”
EU may ease post-Brexit clearing plans
In the news, Reuters reports that the Spanish EU Presidency “wants to water down” a law proposed by the European Commission requiring EU firms to clear derivatives at a European-based CCP, known as the ‘Active Account Requirement’.
According to Reuters the proposal includes, “the need for market participants to gradually adapt to it should be properly taken into account.”
To recap, the ECB has previously suggested any minimum clearing requirements should be gradual and phased-in.
Last week, industry groups issued a strongly worded statement opposing the proposed new EC law, arguing it would lead to volatility in EUREX/LCH basis, fragment the market and harm European investors, see Industry groups warn on EUREX/LCH basis.