ECB boosts periphery bonds

Emily Nicol
Chris Scicluna

Overview:
After days of bickering, the US Senate last night finally reached agreement on a $2trn fiscal support package, teeing up the House to approve the plan on Friday. And last night the ECB provided good news about the scope of its latest asset purchase programme as it published the respective legal text. Nevertheless, after a couple of days of relief following the latest actions by the Fed and other major central banks, risk appetite softened once again in Asia, and the weaker tone has followed through to Europe too. With the economic impact of Covid-19 set to be highlighted by today's US jobless claims numbers - with a record high for initial claims bound to be hit - the downbeat tone is perhaps in order, even though Fed Chair Powell will no doubt try to calm nerves in a breakfast TV interview in a few hours time.

Markets and themes:
So, for example, even though the BoJ today bought a record amount of ETFs (¥201.6bn) for the third time, and reports suggesting that the Japanese government’s forthcoming stimulus package could reach a whopping ¥56bn (10% of GDP), the Topix fell 1.8% even before S&P subsequently announced that it has placed Toyota and Nissan on review for a ratings downgrade while Moodys cut the ratings for the three biggest Japanese auto makers. Indeed, the newsflow from Japan was relentlessly downbeat today, e.g. with the number of coronavirus cases in Tokyo rebounding and Governor Koike advising residents in the capital to stay at home at the weekend to avoid further spread. And with the government now assessing a ‘severe situation’ in its monthly economic assessment, and judging activity now to be ‘extremely depressed’ by the coronavirus outbreak, PM Abe set up a task force to assess whether a national emergency should now be declared.

Elsewhere in the region, China’s main CSI 300 index also fell back, albeit by a more modest 0.7% on the day. And Singapore’s main index dropped about 1% as the advanced estimate of Q1 GDP from that country suggested that economic output slumped an annualised 10.6%Q/Q, rivalling the record drop on the series. Elsewhere, there was the odd pocket of positivity in the region, e.g. as the South Australian Government announced a jobs rescue package, Aussie stocks bucked the trend, with the main index rising more than 2%. But backed by some very weak German and French sentiment surveys, Europe has followed the broader Asian trend, with most major indices currently down 1½% or more. And US stock futures are weaker too.

The softer risk appetite has also therefore been reflected in falling bond yields across the major markets. So, for example, UST yields have dropped back, with 10Y yields down about 7bps since the US close to close to 0.80% and near the bottom of yesterday’s range. Despite the prospect of a massive increase in UST issuance due to the new fiscal package, the Fed’s unlimited purchases should keep yields capped, while today’s jobless claims figures – which are bound to smash the previous series high by a mile – will highlight the appalling deterioration in economic conditions. The NBC TV interview from Fed Chair Powell, to be given at 07.05 NY time, will no doubt be closely watched in this context.

In Asian bond markets, meanwhile, despite the prospect of that substantive fiscal package coming next month, JGBs also made gains, with 10Y yields dropping more than 4bps to slightly below zero percent for the first time in almost two weeks. And Korean government bonds rallied (10Y yields down more than 10bps) as the BoK committed to providing “unlimited” liquidity for three months starting April to help stabilise markets, via weekly repo operations and the possibility of outright bond purchases.

In Europe, meanwhile, the boost to government bonds was supported by last night’s publication by the ECB of its legal text governing its new PEPP asset purchase programme (see below for the detail). Among other things, the ECB Decision made explicit that the issue and issuer limits on bond purchases have been lifted under the programme. And so, while Bunds have made gains this morning (10Y Bund yields down more than 4bps to -0.31%), periphery bonds have rallied (10Y BTP yields down about 9bps to below 1.45%, and GGBs down about 30bps to 1.92%). Investors will be hoping for a further boost for Southern Europe to be offered by EU leaders this afternoon when they discuss possible new support from the ESM and yesterday’s call for the issuance of a common single euro area debt instrument (i.e. a coronabond).

Finally, in line with moves elsewhere, Gilts are also firmer this morning ahead of the BoE’s scheduled monetary policy announcement at lunchtime. A signal that the MPC is willing to do whatever it can to ease market stress and support economic and financial conditions might well be in order.

Euro area:
Last night the legal text of the ECB’s temporary €750bn Pandemic Emergency Purchase Programme (PEPP) was finally published and underscored the massive step change in the nature of its commitment to addressing fragmentation risks. Most notably, the wording of the ECB Decision made clear that the 33% issue and issuer limits will not apply to the purchases under the scheme. It also confirmed that the ECB will be able to buy securities with maturities shorter than those bought under the regular public sector purchase programme. In particular, it will allow purchases of securities with a minimum remaining maturity of just 70 days, and a maximum remaining maturity of 30 years. And following the Decision, the Executive Board now has the power to set the appropriate pace and composition of PEPP monthly purchases, crucially allowing for fluctuations in the distribution of purchases across jurisdictions without the hawks on the Governing Council being able to interfere.

With the ECB having done its bit for the time being, this afternoon it’s the turn of EU leaders to discuss in a videoconference their own contribution on the fiscal and financial front to tackling the Covid-19 crisis. Unfortunately, it’s far from clear that they will do ‘whatever it takes’. On Tuesday night finance ministers seemingly struggled to make headway, with no agreed statement issued. The subsequent letter from the Chair (Portugal’s Mario Centeno) to EU President Michel did, however, state that the ministers “broadly agreed” that the ESM should make available new Pandemic Crisis Support to help member states to fund the healthcare and economic costs generated by the Covid-19 outbreak. (Of course, an ESM loan programme would open the door to the ECB’s OMT purchases, although – unlike the PEPP – we note that these are constrained by the issue and issuer limits.)

The new ESM support would be based on the existing Enhanced Conditions Credit Line (ECCL), albeit with a maturity longer than one year (the maximum currently available under that instrument). And all member states would supposedly initially have access to funds equivalent to about 2% of national GDP. But the precise nature and extent of the conditionality remains to be decided. To be supportive of investor sentiment, EU leaders should make clear that the conditions will be minimal and not onerous. They should also make clear that, if necessary, the Pandemic Crisis Support might in due course be able to offer significantly more than 2% of national GDP to countries in need. They would also do well, therefore, to signal that the ESM’s resources might in due course be augmented to allow for an increase in total lending above its current capacity of city of €410bn, about 3.4% of GDP.

Crucially, however, the leaders need to make clear that policy will adequately mitigate concerns about refinancing risks once Covid-19 has passed. So, to start with, the new ESM lending would ideally have a very long maturity. However, as the leaders of nine member states, including France, Italy, Spain and Belgium, yesterday wrote to EU President Michel, the leaders should finally step and agree to issue a common single euro area debt instrument, of sufficient size and long maturity. Of course, the usual naysayers – Germany, Austria and the Netherlands – are likely to remain defiant and block progress. But markets would certainly respond favourably if leaders today agreed to consider with urgency how such a bond might work.

Data-wise, this morning’s flow of sentiment survey indices continued to illustrate the marked deterioration in economic conditions. Certainly, the German GfK consumer confidence survey offered a downbeat assessment with households inevitably notably more concerned about the economic outlook (the relevant index fell 20pts to its lowest since the global financial crisis), their income prospects and therefore their willingness to buy durable goods (both indices were back at levels last seen during the euro crisis). And so the headline confidence indicator was revised markedly lower in March, by 1.5pts from the forecast published a month ago to 8.3, albeit still well above levels seen during recent crises. Moreover, the forward-looking index for April plummeted to just 2.7, the lowest since May 2009. And with the survey having been conducted between 4-16 March, therefore well before the closure of businesses, production shutdowns and the increased restrictions on the freedom of movement, as well as the marked increases in recorded cases of Covid-19, this seems bound to worsen over the coming month.

Like with the flash PMIs earlier this week, today’s French INSEE business sentiment survey was dire. This was particularly evident in the services sector, where sentiment fell at the steepest monthly pace on record (-14) to 92, well below the long-run average but nevertheless only the weakest reading since 2014. Retailers also reported a plunge in conditions, with the 13pt drop in the headline last seen in October 2008. But while manufacturers were also more pessimistic, the drop in the headline composite index was relatively small (down 3pts to 98). This notwithstanding, firms were clearly worried about the production prospects ahead, with the relevant index down 30pts to its lowest level since mid-2013.

Overall, the headline business climate index fell 10pts in March, the most since the series began in 1980, with record monthly drops reported in the idices for the general outlook, expected activity and demand. Admittedly, at 95 it remained at a relatively high level. But with most responses to the survey collected before restrictions started to tighten with the closure of the schools on 16 March, and well before the fatality count (now above 1000) started to rise exponentially, French business sentiment seems bound to have deteriorated significantly further, with the INSEE indices probably falling below the levels seen during the Global Financial Crisis.

UK:
After several unscheduled announcements over recent weeks, today brings the first scheduled policy announcement by the BoE’s MPC since Andrew Bailey took over as Governor. Certainly, the MPC has been proactive over the past two weeks, announcing two emergency Bank Rate cuts to a record low of 0.1% (arguably the effective lower bound); a new Term Funding Scheme and Covid Corporate Financing Facility to support the flow of funds to businesses; the temporary relaunch, earlier this week, of its Contingent Term Repo Facility (CTRF) to ease money market strains; and, of course, new QE, pledging to purchase £200bn of extra Gilt and corporate bonds as quickly as is materially possible.

Against this backdrop, today’s announcement from the MPC might not offer any new policy initiatives. However, like the Fed earlier this week, the Bank might be tempted to signal its willingness to undertake unlimited asset purchases if required to stabilise market conditions. And the latest forward policy guidance, as well as the minutes from today’s and last week’s emergency meeting to be published alongside the policy statement, will be closely watched for indications of where UK monetary policy is likely to be heading next. With the BoE’s assessment of the current state of the economy and its outlook likely to be dire, a signal of the MPC’s willingness to do whatever it takes – subject to indemnification by the Treasury – might be in order.

Beyond monetary policy, meanwhile, the Chancellor is set today to announce new measures to support the incomes of self-employed workers, who were overlooked when the government’s Coronavirus Job Retention Scheme was announced at the end of last week.

After yesterday’s CBI distributive trades survey implied a marked weakening in retail activity this month with the exception of grocery stores which benefited from household stockpiling, today’s official retail sales figures for February suggested that the underlying trend was already weak before the Covid-19 outbreak. Following a rare stronger performance in January (+1.1%M/M), total sales were down 0.3%M/M in February to mark the sixth month out of the past seven that sales have failed to grow. This left them down 0.6%3M/3M and unchanged compared with a year earlier, the lowest year-on-year rate since March 2013.

With the exception of non-store retailing, sales continued to trend lower in each store-type in February, with particular weakness at department and household goods stores (-1.7%3M/3M and -1.6%3M/3M respectively). Admittedly, non-store retailing in February was much weaker (-2.8%M/M) as market and stall retailers indicated disruption from extreme rainfall, while there were already some supply constraints due to China’s lockdown.

With greater restrictions in the freedom of movement and trading now in place across the UK, non-food sales are bound to have been very weak in March and will remain so for over the coming few months. Indeed, despite the government’s Coronavirus Job Retention Scheme, the sharp deterioration in the labour market already underway – the Department of Work and Pensions stated yesterday that there had been 477k applications for the government’s Universal Credit welfare benefits over the prior nine days (about three times the biggest previous monthly increase in jobless claims, and roughly 0six times the biggest monthly increase during the global financial crisis) – means that expenditure more generally (with the exception of food) will remain very weak for the foreseeable future.

US:
After Fed Chair Powell’s breakfast TV interview, all eyes today will shift to the US weekly jobless claims figures, which are set to be astronomical. Following a notable rise already in last week’s figures (up 70k, or 33%, to 281k), initial claims are expected to post an extraordinary jump to level that will blow out of the water the previous record high of 695k set in 1982. Indeed, a number well in excess of 1.5mn is perfectly feasible.

Data-wise, today will also bring advance goods trade figures for February which are likely to show some signs of disruption to external demand from the coronavirus outbreak, while the Kansas Fed manufacturing activity index for March is also due and signal a marked drop-off in activity over the past month. Of minimal interest will be the final release of Q4 GDP, which is likely to confirm the current estimate of 2.1%Q/Q annualised.

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