Research Team at Deutsche Bank, suggests that the tightening of financial conditions in Europe is being reflected in weaker business surveys.
“However, their absolute level and January’s credit data are good enough to reduce the likelihood of the most aggressive forms of credit easing.
• Core markets are pricing a cumulative ~25bp deposit rate cut, an implicit extension of QE by six months and probably ~EUR10bn increase in the pace of QE.
• The very front-end of the curve seems to be fully priced, as policy makers recognize that an aggressive depo cut without a two-tier system is unlikely to be welcomed by the market.
• We maintain our long 10Y BTP outright as “traditional” easing measures should still be supportive of peripheral markets at current spread levels.
• Direct credit easing options are unlikely at the March meeting given that macro economic data has not weakened sufficiently and credit flow has bounced back in January after having weakened in December.
• The path of least resistance would involve the ECB fine tuning its existing policy measures which include rate cuts and expanding the QE programme. This leads us to maintain our long position in 10Y BTPs rather than recommending more risk-on trades such as outright paid position in core rates or steepeners at the long-end of the EUR curve.
• In the UK, increased focus on Brexit risk has been the dominant theme this week (see What does a June referendum means for Gilts?) At the same time the cheapening of long end cash is likely a result of supply indigestion rather than specific Brexit concerns. From a trade perspective we recommend short 5Y in the 2Y5Y10Y UKT fly to fade the recent richening in advance of next week’s supply.
• EIB will not negotiate unilaterally with the UK in case of a Brexit, but rather execute the decisions of its shareholders. In our view, while a downgrade of EIB seems likely in case of a Brexit, a serious deterioration of EIB’s credit quality due to a Brexit alone seems unlikely.
• USD B/Es have outperformed markedly, benefitting from higher oil prices as well as signs of some pick-up in underlying inflation. In EUR, we see downside risks for next week’s February HICP. In GBP, with risk sentiment improving, oil stabilising, sterling weak, trends in domestic inflation indicators supportive, we maintain our long 10y B/E.
• Any deterioration in RMBS credit fundamentals in the event of a Brexit should prove manageable but technical headwinds however could well be sustained leading upto the vote and indeed further exacerbated if the polls show the “out” faction strengthening. Long dated, or mezz UK non-conforming and BTL RMBS tranches are more exposed.”
(Market News Provided by FXstreet)
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