Where is the Bottom for Peripheral Spreads?

Dovish central banks prolonged investors’ hunt for yield so spreads on peripherals and EM are decreasing again. Where’s the bottom for Bund and what are the consequences for CEE yields read in our short article.

Not that long ago, actually just few months ago, in October 2018 most of investors expected yields on upward trajectory as both FED and ECB were planning to tighten their monetary policy. There were even some popular bond investors and bankers who expected US 10Y to reach YTM of 4.0% or even 5.0% while most of the banks’ analysts were expecting Bund to end 2019 in 50-100bps range. However, that turned wrong when equity market in US collapsed in the last two months of 2019 dropping by almost 20% from its highs and forcing investors back to the safe havens such as US Treasuries and Bunds. Among other things, bear market forced Mr. Jerome Powell to ease his stance and completely abandon his intentions to bring reference rate closer to the neutral level, saying that we are very close to the neutral policy rate as it is. After the last monetary policy meeting, market sees it very unlikely that FED is going to lift its policy rate in this business cycle. Meanwhile, economic growth in Eurozone slowed down and inflation decelerated which was enough for dovish orientated central bank as ECB to postpone hike towards 2020 or even beyond while introducing another TLTRO. With these dovish messages from central bankers, equity market recovered with most of US indices being close to their all-time highs. Oil prices are not at their highs of 2018 although showing strong growth trend that could continue due to supply cuts and renowned optimism over world growth. Nevertheless, yields are relatively low again (Chart 1) and if any equity crash should emerge, that could send them even lower.

Source: Bloomberg, InterCapital

Talking about low yield environment, almost all CEE countries have seen them dropping significantly this year with spreads versus benchmarks being close to their all-time lows. On the Chart 2. submitted below it’s evident that since last December spreads on 2027 papers tightened significantly in all CEE (except in Romania, due to all the fuss around law changes). Croatian one tightened the most driven by S&P’s decision to lift its rating to investment grade. However, last week we have seen modest sell-off on Croatian papers, most likely reflecting some profit taking. High liquidity and central banks that are not expected to tighten their policy any time soon could continue pushing investors to search for yield in every corner of the world, so it shouldn’t be a surprise seeing Greek bonds trading at their lowest levels ever or Croatian 10Y way below 2%.

Source: Bloomberg, InterCapital

Marin Onorato
Published
Category : Blog

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