Good Morning Rate Watchers.
The risk trade (pain trade?) was initially seen back in style yesterday morning after the ECB added $18 billion to Greece's account so they would be able to pay back an $8.5 billion government note that matures today. This put stocks in a good mood and led to Treasury selling and short covering in the Euro. (Pain trade = the trade that will hurt the most amount of people in the worst way)
However this fad didn't last long as risk was quickly deemed off-limits again when German financial regulator BaFin announced it would ban naked short selling of CDS on EU member debt, underlying Euro member government debt, and the shares of the following German financial houses: AAREAL BANK AG, ALLIANZ SE, COMMERZBANK AG, DEUTSCHE BANK AG, DEUTSCHE BÖRSE AG, DEUTSCHE POSTBANK AG, GENERALI Deutschland HOLDING AG, HANNOVER RÜCKVERSICHERUNG AG, MLP AG, ÜNCHENER RÜCKVERSICHERUNGS-GESELLSCHAFT AG. This ban will last until March 31, 2011.
Short sellers borrow shares and sell them in hopes they will be able to buy them back later at lower price (for profit). Naked short selling occurs when a trader sells a financial instrument he has not yet borrowed. Iti is widely believed naked short selling led to greater volatility in Eurozone debt, Eurozone CDS, and global stocks as market participants looked to profit from contagion.
This wasn't the only "official move" to reduce asset value volatility. The Bank of Italy announced Italian Banks would be able to exclude gains and losses on European owned bonds from their regulatory capital reserve requirements. This decision should shelter the credit ratings of banks who own EU government securities but it has yet to boost global investor confidence (because the EU waited too damn long to act!)
While the main intention of these actions was to limit volatility, the exact opposite happened after the announcements. The value of the Euro plummeted, equities reversed course, U.S. Treasuries felt the love of an originator friendly flight to safety and "rate sheet influential" MBS prices rallied enough to warrant reprices for the better (sometimes more than one)
The Euro hit a new four year low of $1.2162 before closing down 1.49% at 1.2207. The S&P ended the day session -1.42% at 1120.80. The 10 yr TSY note was up more than a full point in price and down 13.7bps in yield at 3.353%, and the secondary market current coupon went out 7.7 basis points lower at 4.171% led by a +0-13 tick performance of the FN 4.5. Yield spreads were wider vs. benchmarks (+81.8/10yrTSY and +75.8/10yrIRS). Trading flows in the agency MBS market were above average with over 9,000 trades reported by Tradeweb.
Germany's decision to ban naked short selling and Italy's move to sure up confidence in the creditworthiness of their banks failed to rally investors overnight, indicating the crisis has yet to be fully contained and there is more room to fall for the Euro. In mainland China stocks fell 0.27%, in Hong Kong the Hang Seng was 1.83% lower. In Japan the NIKKEI was off 0.54% and the TOPIX fell 0.36%, in Germany the DAX has declined 2.03% , in Paris the CAC is 2.51% underwater, and in London the FTSE is 2.02% in the red.
APRIL CONSUMER PRICE INDEX DATA WAS JUST RELEASED....
CPI: -0.1 % vs. CONSENSUS +0.1% BETTER THAN EXPECTED
CPI EX-FOOD & ENERGY: UNCH vs. CONS +0.1 % BETTER THAN EXPECTED
CPI YEAR-OVER-YEAR: +2.2 % vs. CONS +2.4 % BETTER THAN EXPECTED
CPI EX-FOOD & ENERGY YEAR OVER YEAR: +0.9 % vs. CONS +1.0 % BETTER THAN EXPECTED
UNADJUSTED CPI INDEX: 218.009 vs. CONS 218.10 vs. MARCH 217.631 BETTER THAN EXPECTED
Below s a breakdown of the individual components of the index.
Notice Real Earnings are rising as price levels decline. It is also interesting that price level increases were in categories that one might say are heavily influenced by government budgeting (raising costs on social utilities) and political legislation (health care). I don't know why airline prices shot up 2.2%, you tell me. Either way this inflation data was marginally BETTER THAN EXPECTED and another reminder that the Federal Reserve is under no inflationary pressure to raise the overnight lending rate in the intermediate future (Fed Funds, NOT THE DISCOUNT RATE).
After the data was released U.S. stock futures moved off early session lows and benchmark Treasury yields moved higher. Again this illustrates how global currency concerns are at the forefront of tactical trading biases (tactical is more short term, think of strategic as "buy and hold"). Schedule economic releases continue to play a minimal role in motivational influences. The FOMC minutes do hold slightly more potential for directional indications as many market participants are interested to see how the Fed addressed growing contagion in the EU.
The S&P futures contract is currently -4.25 at 114.50 as the Euro rebounded back up to 1.233 on what looks like short covering again.
Overnight trading volume in U.S Treasuries was above average as a flight to quality continued to pour into government guaranteed, dollar denominated, risk averse assets. The 3.50% coupon bearing 10 year Treasury note is -0-07 at 101-01 yielding 3.379%. After breaking resistance overnight, traders have pushed yields back up to the 3.38% pivot that MG called attention to yesterday.
Rate sheet influential MBS prices are falling. The FN 4.5 is -0-05 at 101-24 yielding 4.300%. The secondary market current coupon is 4.2bps higher at 4.213%. Mortgage servicers will be buyers of 4.5 MBS as the duration of their servicing liabilities extends while other accounts will take profits on higher dollar prices. Yield spreads are already wider even as TSY yields tick higher, implying fast money sellers have already been booking profits this morning.
Rate sheets will be a few bps lighter this morning. Reprices for the better seens around 102-02.
There is rumor circulating around the markets that the ECB and U.S. Federal Reserve might be buying the Euro as they are concerned about the speed of decline seen in the value of the EU currency. This combined with generally thin trading conditions supports the notion that short covering was the culprit behind the early session spike in the EUR/USD pair which led stocks and interest rates higher.
THE VALUE OF THE EURO CONTINUES TO BE THE MAIN MOTIVATION OF MARKET PARTICIPANTS. READ MORE