Government Bonds Weekly, 9-16 December We go long the Bund spread

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1 Government Bonds Weekly, 9-16 December We go long the Bund spread Arne Lohmann Rasmussen Jens Peter Sørensen Anders Møller Lumholtz Chief Analyst, Fixed Income Research Chief Analyst, Fixed Income Research Chief Analyst, Fixed Income Research arr@danskebank.dk jenssr@danskebank.dk andjrg@danskebank.dk December 2016 Investment Research Important disclosures and certifications are contained from page 15 of this report

2 Market views after ECB more curve steepening and wider Bund spread Rather than repeat what the ECB did yesterday, we refer you to our ECB review here. Instead, we outline our view on the EGB market following the ECB meeting. Tapering theme not dead: Although Mario Draghi tried his best to convince the market the move from EUR80bn to EUR60bn a month should not be seen as tapering, we believe this theme will resurface throughout 2017, adding to the steepening of the yield curve. Lower QE purchases at the long end also add to steepening 10Y30Y. Bund asset swap set to widen: Although buying below the depo rate will take place only if necessary and more longer dated bunds are approaching the ISIN limit, we doubt the Bundesbank will have any choice but to do so. This widens the pressure on the asset swap curve. We go long the Bund spread (see page 3). Ineffective changes to the securities lending programme: The EUR50bn in additional collateral (cash) should in isolation ease the repo squeeze for Bunds. However, the current -70bp is not a floor but rather the cheapest level at which it will be activated. Over year-end in particular, the new tool might have little impact as cash will add to banks balances adding to the resolution fund bill. This is not the case when bonds are used as collateral. We doubt the new measure will ease tightness in the German repo market significantly. Little help to periphery: The unchanged issue/issuer limit and unchanged capital key mean that Portugal and Ireland in particular will see no extra help from continued PSPP buying in 2017 and possibly Furthermore, Italy is vulnerable due to the political situation and recent rating concerns since Moody s changed its outlook. In our view, the ECB offered little help to Italy. We enter Q1 with a cautions stance on the periphery. We look for a wider Bund spread Source: Bloomberg, Danske Bank Markets We doubt the repo squeeze will disappear Source: Danske Bank Markets 2

3 Buy the Bund or DBR 0% 08/26 vs We do not expect the change in the repo to have a significant impact on solving the squeeze in the Bund spread. There were big moves in the Bund, Bobl and Schatz when we rolled into the March future as seen in the chart, so optically the spread looks cheap. If we look at the underlying bonds, the move is somewhat more modest. Looking at the underlying bonds, there is a solid carry being long DBR 0% 02/26 relative to swap it rolls some 9bp up the ASW-spread curve. Furthermore, there is a bit of seasonality in ASW spreads, with the Bund/Bobl/Schatz spread widening in January. We buy the Bund spread@38.5bp or DBR 0% 08/26 vs swaps@39bp Schatz Bobl Schazt spread Jan-14 May-14 Sep-14 Jan-15 May-15 Sep-15 Jan-16 May-16 Sep-16 Source: Bloomberg, Danske Bank Markets The 5Y and 10Y ASW-spread - Germany bp DBR 1 15AUG2025 DBR 0 09APR2021 DBR 0 15AUG Nov-15 Jan-16 Mar-16 May-16 Jul-16 Sep-16 Nov-16 Source: Bloomberg, Danske Bank Markets 3

4 Publication schedule for supply outlooks 2017 Scheduled/already published Belgium released its outlook on 6 December Portugal published its on 21 October Austria 14 December Netherlands 15 December France on 15 December Finland 23 December Expected release day Germany December Spain late December/early January Italy late December Ireland December Scandi Denmark December Sweden already published Norway 20 December 4

5 Supply outlook estimates for 2017 modestly higher gross issuance relative to 2016 but significantly lower net issuance Redemptions (EUR bn) Deficit % of GDP* Bond issuance ** Net Issuance Germany % 0.0% France % -3.1% Italy % -2.3% Spain % -3.1% Belgium % -1.6% Austria % -1.2% Netherlands % -0.5% Finland % -2.6% Ireland % -0.4% Portugal % -1.6% Greece % -2.3% Total Denmark % -2.5% Sweden % -0.4% Norway % 5.7% * Danske Bank and National Debt offices and Ministry of Finance ** This is expected bond issuance excluding T-bills and prefunding; France issues some EUR bn, with the excess to buy at the front end of the *Danske Bank and National Debt offices and Ministry of Finance curve; a similar thing happens in Italy and Denmark Source: ** This is National expected debt bond offices, issuance Ministry excluding of Finance, T-bills Danske and prefunding. Bank France issues some bn where the excess is to buy in the front end of the curve. A similar thing happens in Italy and Denmark 5

6 The calendar next week: look out for 2017 funding and issuance outlooks Supply: This is the last week in 2016 with supply in the EGB market. We have Austria tapping for the last time in the 10Y segment. Year to date it has issued bonds for EUR21.8 bn and the funding target is EUR22.0bn; hence, slightly prefunding this year in Austria. Spain will tap in the 5Y and 10Y segment. Funding and issuance outlook 2017: Next week, a number of 2017 funding and issuance outlooks are scheduled to be published. Austria, the Netherlands and France are already in the calendar and Ireland might also publish its Q1 outlook next week. The Danish Debt office might publish its 2017 outlook late in the week. See also page 3. Rating review: Germany is up for review by S&P. week 50 issuer type maturity coupon size Tuesday 13/12 Austria RAGB Oct % EUR 1.1bn Austria RAGB Oct % Italy BTPS cancelled Wednesday 14/12 Sweden SGB Dec % SEK 1bn Sweden SGB Nov % SEK 2bn Austria 2017 Funding outlook and auction calendar Thursday 15/12 Spain SPGB Jul % EUR 3-4bn Spain SPGB Oct % Netherlands 2017 Funding outlook France 2017 Funding outlook Source: Danske Bank Markets 6

7 Net cash flow positive net cash flow dues to Germany and Italy Net cash flow Week 50 Week 51 Week 52 Germany France Italy Spain Portugal Belgium Netherlands Austria Finland Ireland Slovakia Greece EFSF ESM Total - EUR Denmark Sweden Norway Note: All volumes are in billions, local currency. Note: All volumes are in billion in local currency Negative means more issuance than coupons and redemptions Source: Danske Bank Markets Note: Negative means more issuance than coupon and redemption 7

8 Last week s auctions quiet week week 49 issuer type maturity coupon sold b-t-c avg. Yield Wednesday 07/12 Germany Schatz Dec % 2, % Norway NGB May % 3, % Denmark DGB Nov % % Denmark DGB Nov % 2, % Thursday 08/12 Sweden SGBi Jun % % Sweden SGBi Jun % % Source: Bloomberg, Danske Bank Markets 8

9 Supply YTD and remaining net supply Expected gross bond issuance 2016 Gross Bonds Expected net % issued YtD of expected gross Expected issuance Net issuance issuance maturing issuance Official (Bn) Official estimate* Danske Markets 2016 YtD Danske Markets 2016 YtD estimate Germany % 97% France % 95% Italy % 97% Spain % 101% Portugal % 94% Greece % 0% Belgium % 103% Netherlands % 92% Austria % 99% Finland % 105% Ireland % 121% EU % 78% EFSF % 100% ESM % 77% Total - EUR % 96% Denmark* % 95% Sweden % 113% Norway % 95% **Denmark numbers are are notional notional levels, levels i.e. not i.e. not taking taking into into account account the the additional additional revenue revenue from from the sale sale of of bonds trading above above Source: EU debt agencies, Danske Bank Markets 9

10 Trades We currently have no open trades except the trades found in Danske Bank Markets Fixed Income Top Trades 2017, 1 December. See our Fixed Income Top Trades 2017 here. Fixed Income Top Trades 2017 overview #1: 10Y-30Y 5Y fwd EUR swap steepener #2: Lower 1y1y real rate (rec 1y1y eonia vs higher 1y1y inflation) #3: Steeper EUR swap curve 3Y10Y 6M fwd #4: Long France versus swaps/the Netherlands #5: Long only recommendations Danish covered bonds #6: Relative value trade DK mortgages - Buy against 10Y EUR swaps #7: Relative value trade DK mortgages - Buy against 10Y EUR swaps #8: Exploit steep money market curve and receive SEK 3Y1Y #9: Receive 1Y1Y EURSEK CCS #10: Long 6y NGB vs. Germany with an open FX exposure Source: Danske Bank Markets 10

11 Germany Standard & Poor s Standard & Poor s: 16 December Germany Moody's S&P Fitch Rating Aaa AAA AAA Outlook Stable Stable Stable Potential rating decision December Requirement for downgrade Downward pressure on Germany's Aaa rating could occur if we were to observe a prolonged deterioration in the government's fiscal position and/or the economy's long-term strength. We could lower our ratings on Germany if we observed a significantly weaker trend growth than we currently expect, translating into a marked deterioration in public finances, or if we perceived a weakening in the ECB's monetary flexibility. In addition, an unexpected surge in contingent liabilities, particularly from the banking sector, or contagion from a potentially re-intensifying eurozone crisis, could put pressure on the ratings if required sovereign support was significantly larger than we anticipate. However, we currently do not expect these scenarios to materialize over our outlook horizon. -A reversal of the declining trend in the general government debt ratio. Debt approaching 90% of GDP would start to put pressure on the rating. -Crystallisation of contingent liabilities, for example further state support to the banking sector or to other eurozone countries. As a member of the currency union, Germany is financially exposed to a re-intensification of the eurozone crisis. Source: Fitch, Standard & Poor s, Moody s 11

12 Germany Standard & Poor s Standard & Poor s: 16 December Source: Fitch, Standard & Poor s, Moody s Source: European Commission 12

13 Current rating and outlook Fitch Moody's S&P DBRS Germany AAA Aaa AAAu AAA Finland AA+ Aa1 AA+ AAH Netherlands AAA Aaa AAAu AAA Austria AA+ Aa1 AA+ AAA Belgium AA Aa3 AAu AAH France AA Aa2 AAu AAA Ireland A A3 A+ AH Italy BBB+ Baa2 BBB-u AL *- Spain BBB+ Baa2 BBB+ AL Portugal BB+ Ba1 BB+u BBBL UK AA Aa1 AAu AAA Denmark AAA Aaa AAA AAA Sweden AAA Aaa AAAu AAA Norway AAA Aaa AAA AAA Slovenia A- Baa3 A --- Cyprus BB- B1 BB B Greece CCC Caa3 B- CCCH EFSF AA Aa1 AA WR ESM AAA Aa EU AAA Aaa Source: Moody s, Fitch, Standard & Poor s, DBRS Fitch Moody's S&P DBRS Germany STABLE STABLE STABLE STABLE Finland STABLE STABLE STABLE STABLE Netherlands STABLE STABLE STABLE STABLE Austria STABLE STABLE STABLE STABLE Belgium NEG STABLE STABLE STABLE France STABLE STABLE STABLE STABLE Ireland STABLE POS STABLE STABLE Italy NEG NEG STABLE --- Spain STABLE STABLE STABLE STABLE Portugal STABLE STABLE STABLE STABLE UK NEG NEG NEG STABLE Denmark STABLE STABLE STABLE STABLE Sweden STABLE STABLE STABLE STABLE Norway STABLE STABLE STABLE STABLE Slovenia STABLE POS STABLE --- Cyprus POS POS POS POS Greece --- STABLE STABLE STABLE EFSF STABLE STABLE STABLE STABLE ESM STABLE STABLE --- STABLE EU STABLE STABLE STABLE STABLE 13

14 Rating calendar for 2016 Moody's Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Germany France Italy Spain Portugal Greece Belgium Netherlands Austria Finland Ireland Denmark Sweden Norway Not scheduled S&P Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Germany France Italy Spain 1 30 Portugal Greece Belgium Netherlands Austria Finland Ireland 3 2 Denmark Sweden 4 2 Norway Fitch Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Germany France 10 9 Italy Spain Portugal 4 19 Greece 11 2 Belgium Netherlands 6 4 Austria 5 5 Finland 11 2 Ireland 5 15 Denmark Sweden Norway 15 7 Source: Moody s, Fitch, Standard & Poor s, DBRS DBRS Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Germany France Italy Spain 8 7 Portugal Greece 10 9 Belgium 4 Netherlands Austria Finland 11 9 Ireland 11 2 Denmark Sweden 3 2 Norway

15 Disclosures This research report has been prepared by Danske Bank Markets, a division of Danske Bank A/S ( Danske Bank ). The authors of the research report are Jens Peter Sørensen (Chief Analyst), Arne Lohmann Rasmussen (Chief Analyst) and Anders Møller Lumholtz (Chief Analyst). Analyst certification Each research analyst responsible for the content of this research report certifies that the views expressed in the research report accurately reflect the research analyst s personal view about the financial instruments and issuers covered by the research report. Each responsible research analyst further certifies that no part of the compensation of the research analyst was, is or will be, directly or indirectly, related to the specific recommendations expressed in the research report. Regulation Danske Bank is authorised and subject to regulation by the Danish Financial Supervisory Authority and is subject to the rules and regulation of the relevant regulators in all other jurisdictions where it conducts business. Danske Bank is subject to limited regulation by the Financial Conduct Authority and the Prudential Regulation Authority (UK). Details on the extent of the regulation by the Financial Conduct Authority and the Prudential Regulation Authority are available from Danske Bank on request. The research reports of Danske Bank are prepared in accordance with the Danish Society of Financial Analysts rules of ethics and the recommendations of the Danish Securities Dealers Association. Danske Bank is not registered as a Credit Rating Agency pursuant to the CRA Regulation (Regulation (EC) no. 1060/2009); hence, Danske Bank does not comply with nor seek to comply with the requirements applicable to Credit Rating Agencies. Conflicts of interest Danske Bank has established procedures to prevent conflicts of interest and to ensure the provision of high-quality research based on research objectivity and independence. These procedures are documented in Danske Bank s research policies. Employees within Danske Bank s Research Departments have been instructed that any request that might impair the objectivity and independence of research shall be referred to Research Management and the Compliance Department. Danske Bank s Research Departments are organised independently from and do not report to other business areas within Danske Bank. Research analysts are remunerated in part based on the overall profitability of Danske Bank, which includes investment banking revenues, but do not receive bonuses or other remuneration linked to specific corporate finance or debt capital transactions. Danske Bank is a market maker and may hold positions in the financial instruments mentioned in this research report. Danske Bank, its affiliates and subsidiaries are engaged in commercial banking, securities underwriting, dealing, trading, brokerage, investment management, investment banking, custody and other financial services activities, may be a lender to the companies mentioned in this publication and have whatever rights are available to a creditor under applicable law and the applicable loan and credit agreements. At any time, Danske Bank, its affiliates and subsidiaries may have credit or other information regarding the companies mentioned in this publication that is not available to or may not be used by the personnel responsible for the preparation of this report, which might affect the analysis and opinions expressed in this research report. See for further disclosures and information. 15

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