The Gilts Thread

[shedfish]

Ash, well spotted... looks like a data error by the Beeb - but if it isn't...

[Mikhail Liebenstein]

http://www.dailyfx.com/story/currency/eur_...8492184873.html

Is the Euro going to impersonate the Yen a few years back??????

Euro Threatened with Mounting Deflation Risk, US Bond Auction

Fundamental Forecast for Euro: Bearish

- German Producer Prices Fall Most in Over Two Decades

- Euro Zone, German PMI Results Top Expectations, Stay in Below 50

- Sentiment Points to Continued Euro Gains Against the US Dollar

The Euro looks vulnerable in the week ahead as headline inflation figures point to the increasing likelihood of deflation while a the US Treasury holds a record-setting bond auction that stands to boost the Dollar at the expense of the single currency. Germany’s Consumer Price Index is set to show the annual pace of inflation turned negative for the first time in 23 years in July after holding at a standstill in the previous two months. The broader Euro Zone measure of consumer prices has already turned negative, shedding -0.1% in June and likely to slip another -0.4% in July. If expectations of falling prices become entrenched, the currency bloc could be facing a long-term period of stagnation as consumers and businesses are encouraged to wait for the best possible bargain and perpetually delay spending and investment.

For their part, the European Central Bank has seemingly struggled to formulate an effective policy response to the deflationary threat thus far. Jean-Claude Trichet and company have focused on banks as the vehicle through which to make money cheaper and put a floor under falling prices, promising unlimited lending to the region’s financial institutions including an unprecedented 442 billion euro in 12-month bank loans. The ECB will also implement a 60 billion bond-buying scheme. To the central bank’s credit, borrowing costs have indeed moved lower: although the ECB publicly maintains target interest rates at 1%, it has allowed the average cost of overnight lending (referred to as EONIA) to drift far below that. Indeed, borrowing in Euros has been consistently cheaper than doing so in British Pounds since late June, even though the Bank of England’s stated interest rates are substantially lower at 0.5%. However, the lower cost of credit between banks has not translated into lending, and so has offered little stimulus to the overall economy. Indeed, loans to Euro Zone businesses and households grew just 1.8% in May, the lowest since records began in 1991. Banks may be choosing to hang on to cash as a buffer against $1.1 trillion in as yet unrealized losses linked to the subprime mess, according to the IMF, as well as the fallout from looming defaults and/or devaluations among the ly-minted central European members. In any case, the door is open for traders to punish the Euro as the ECB’s inability to ensure that looser monetary conditions translate beyond the interbank market make deflation all but certain.

An unprecedented bond auction in the United States may also weigh on the single currency. The US Treasury’s announced last week that it will sell a record $115 billion in bonds next week in a bid to help finance the rapidly growing public deficit, pushing 10-year notes to register the largest daily loss in nearly seven weeks and sending yields to the highest level in a month. We have argued for some time that the US Dollar will benefit as the government floods the market with new debt: Treasury prices will head sharply lower, putting tremendous upward pressure on the long-term interest rates. This will make USD-denominated assets attractive to yield-seeking investors, driving demand for the greenback. Because the Euro is the second-most traded currency after the greenback, it often serves as the de-facto anti-Dollar, with short term studies showing a hefty -85.8% correlation between average indexes of the two units’ values. This means that any meaningful turn in sentiment in favor of the US Dollar will weigh heavily on the Euro, not just in the pairing against the greenback but across the board.

[Fairies Wear Boots]

I don't get it. Sentance says they might not do any more Queasing and the markets don't like it? I thought they'd be more annoyed if they did too much of it.

=============

And another question...

So it's all looking like the base rate will have to come back up soon?

I've been waiting patiently! (or maybe that's impatiently !)

[Mikhail Liebenstein]

I don't get it. Sentance says they might not do any more Queasing and the markets don't like it? I thought they'd be more annoyed if they did too much of it.

=============

And another question...

So it's all looking like the base rate will have to come back up soon?

I've been waiting patiently! (or maybe that's impatiently !)

There is some reverse psychology. If QE stops some worry the economy might weaken. Other might see it as a sign of strength that it doesn't need it.

[grumpy-old-man-returns]

There is some reverse psychology. If QE stops some worry the economy might weaken. Other might see it as a sign of strength that it doesn't need it.

they won't stop the printing press once it's in overdrive imo. Why would they ?

surely only a change of government would/might do this ?

from a US perspective (we mirror them), obama has given the green light to print more, congress appear to be worried, but the fed keep getting the nod...

same in the UK, BoE appear to be worried, but they keep printing the stuff..

someone tell me why the US or the UK/ECB would stop now ?

[Number79]

they won't stop the printing press once it's in overdrive imo. Why would they ?

surely only a change of government would/might do this ?

from a US perspective (we mirror them), obama has given the green light to print more, congress appear to be worried, but the fed keep getting the nod...

same in the UK, BoE appear to be worried, but they keep printing the stuff..

someone tell me why the US or the UK/ECB would stop now ?

I think that the others would stop when one goes 'pop'. My bet is that we go bang first.

[yellerkat]

someone tell me why the US or the UK/ECB would stop now ?

Germany "zooming" out of an inventory-led recession?

(If you can believe the India Daily.)

[Sour Mash]

I don't get it. Sentance says they might not do any more Queasing and the markets don't like it? I thought they'd be more annoyed if they did too much of it.

=============

And another question...

So it's all looking like the base rate will have to come back up soon?

I've been waiting patiently! (or maybe that's impatiently !)

If I understand correctly, QE means easy profits/a safety net for bond buyers - they know that they can always sell their bonds on to the BoE at full price at one of their repo auctions. Thus more demand and lower yields.

Therefore if the BoE's QE stops, yields would rise making existing gilts worth less.

Of course, QE is debasing the currency meaning at some stage once the 'spectre of deflation' has gone away, the whole thing will collapse and yields will rise anyway - but our woeful government will do anything to keep those plates spinning a little longer (especially with an election on the way) even if it means bigger problems down the road.

As noted on the thread, a lot of the smart foreign money has already left gilts.

[Number79]

As noted on the thread, a lot of the smart foreign money has already left gilts.

a lot of the smart foreign money? don't you mean all of the smart foreign money? isn't that why the boe is doing much of the buying?

[Fairies Wear Boots]

If I understand correctly, QE means easy profits/a safety net for bond buyers - they know that they can always sell their bonds on to the BoE at full price at one of their repo auctions. Thus more demand and lower yields.

Therefore if the BoE's QE stops, yields would rise making existing gilts worth less.

Of course, QE is debasing the currency meaning at some stage once the 'spectre of deflation' has gone away, the whole thing will collapse and yields will rise anyway - but our woeful government will do anything to keep those plates spinning a little longer (especially with an election on the way) even if it means bigger problems down the road.

As noted on the thread, a lot of the smart foreign money has already left gilts.

Hmmm, thanks. Not sure why there being more of them, means the BoE is more likely to buy them back. Maybe I should reread the thread. It hurt enough the first time through!

[lufc]

http://uk.reuters.com/article/idUKLNE56S02...ndChannel=11595

LONDON (Reuters) - Gilt investors taking positions ahead of next week's Bank of England meeting are having to make a crucial calculation -- where would gilts be trading if the biggest buyer in the market disappeared after this week?

Ten-year swaps are currently trading at 4.34 percent, 35 basis points higher than the equivalent gilt yield. The spread before the BoE began buying gilts in March was zero and many analysts reckon it should return to that level.

BUMP.

[Ash4781]

http://uk.reuters.com/article/idUKTRE56S2OO20090729?sp=true

LONDON (Reuters) - Financial institutions lent less money to households last month than at any time in the past 15 years, overshadowing a modest rise in mortgage approvals, official data showed on Thursday.

More doubt was cast on the effectiveness of the Bank of England's quantitative easing policy -- which aims to combat a shortage of cash caused by the credit crunch -- after headline M4 money supply suffered its biggest drop since September 2004.

"The Bank of England has repeatedly stressed recently that it will take time for quantitative easing ... to fully feed through to support bank lending. There continues to be little hard evidence of this so far, which is potentially worrying for recovery prospects if the situation persists," said Howard Archer, chief UK economist at IHS Global Insight.

Net lending rose by 414 million pounds in June, down from a 485 million increase in May, barely a ninth of last June's rise after both new consumer credit and mortgage lending were much less than economists had expected.

This was the weakest figure since the Bank began collecting this data in April 1993.

New unsecured consumer credit slumped to 71 million pounds confounding economists' forecasts of a 300 million pound rise and also less than half a net 153 million in May, also revised sharply downwards.

Net new mortgage lending edged up to 343 million pounds from 331 million, again far less than the 600 million pounds in net lending that economists had expected.

The one bright spot was mortgage approvals, which were a shade ahead of economists' expectations at 47,584, up from 44,169 the previous month. That was the highest total since April 2008 and tallies with other surveys pointing to a levelling off in the decline in housing market activity.

"The comforting news is that it's bottomed out and is trending higher," said Alan Clarke, UK economist at BNP Paribas.

MURKY M4

Headline M4 money supply fell by 0.2 percent in June, the biggest drop since September 2004, for an annual rise of 13.8 percent -- the latter figure being distorted upwards due to financial market turmoil over the past year, economists said.

The Bank will have to make a tough call at its August 5-6 policy meeting next week on whether to expand its quantitative easing programme now that the 125 billion pounds of newly created money it approved has been spent, mostly on gilts.

Bank Governor Mervyn King has said the policy's main aim is to boost the money supply, and thereby total spending in Britain's recession-hit economy, while other policymakers have also looked for a direct effect on bank lending.

One of the Bank of England's preferred gauges of money supply, M4 excluding intermediate other financial corporations, fell 0.6 percent on the month -- the biggest drop since December -- though more accurate quarterly data is due out on August 4, just before policymakers meet.

A slightly more positive picture emerged from households' M4 holdings, which rose by 0.3 percent in June and May, and from private non-financial corporations' holdings, which increased by 0.5 percent after a 0.6 percent drop the month before.

"This is not proof that QE is working or even that a firmer trend is in place, but at least the figures are in the right direction this month. Overall these financial flow numbers are moderately encouraging for economic prospects," said Philip Shaw, economist at Investec.

Other economists were more downbeat about the data.

"There is still little sign of the pick-up in bank lending growth that we think is necessary for a strong and sustained recovery in the wider economy," said Vicky Redwood, UK economist at Capital Economics.

(Editing by Richard Balmforth)

They must have had a reason to pause. What was the objective of QE again ?

[mattyboy1973]

'bump' and - thoughts from the worthy ones on this from KD this morning?

US 5yr Bond Auction Effectively FAILS

That's right, FAILS.

No, you didn't hear it reported this way and won't, but that's the math.

Here you have the results:

And here's the math:

1.923 BTC X 61.59% Primary Dealer bid = 1.18 BTC (PD), greater than 1.0. Or to put it a different way, but for the primary dealers the bid-to-cover was less than one, meaning that some of the issue would have been left on the table.

Thats a fail; but for the primary dealers the issue would not have subscribed.

Primary dealers are required to bid. That's the deal in exchange for their being named as "primary dealers." For this reason short of thermonuclear war you will never see an actual (BTC < 1.0) "fail" on a US Treasury Auction - Treasury has rigged the process so as to insure that cannot be reported.

Therefore, the question is this: Less the primary dealer "bid" (forced by agreement) was there sufficient interest to subscribe the issue, and the answer is NO.

Those who think this is "no big deal" need to have their head examined. In general any BTC under 2.0 indicates a serious problem, and the perverse nature of the primary dealer system is the reason.

The United States' Credit Card (issued by China and Japan) is being slowly cut off. That the stock market "recovered" after this ridiculously bad auction (bow-wow is the best way to describe it) speaks to the vacuum between the ears of both the cheerleaders in the mainstream media and those in the equity markets.

There is only one other time in recent memory that we've had a bond market auction fail like this. You might want to go have a look at your charts - with dates - for what followed shortly thereafter.

They're going to try to sell 7yrs tomorrow, and then the real fun begins with the quarterly refunding.

That ought to be a real riot.

President Obama, you might want to have a chat with Bill Clinton about the Bond Market and Hillarycare, lest you wind up learning this lesson the hard way.

http://market-ticker.denninger.net/

[Timm]

'bump' and - thoughts from the worthy ones on this from KD this morning?

[ US-5yr-Bond-Auction-Effectively-FAILS ]...

That should have it's own thread, IMHO.

(I was just about to start one when I thought I'd check here first).

[getdoon_weebobby]

That should have it's own thread, IMHO.

(I was just about to start one when I thought I'd check here first).

great stuff. when do interest rates start going up!? cannae wait

[Blue Peter]

That should have it's own thread, IMHO.

(I was just about to start one when I thought I'd check here first).

It's discussed in this thread, started by MOP:

The Treasuries Thread with a useful explanation by ChumpusRex,

Peter.

Edit: Typo

Edited July 30, 2009 by Blue Peter

[Victor_Broom]

Latest IMF report here.

[FreeTrader]

The BoE's planned purchases of assets under the currently announced QE programme have now effectively been completed.

£125.096bn of assets have been purchased by the issuance of central bank reserves. Of this sum, £122.374bn has been allocated to buying gilts, £1.804bn to commercial paper, and £0.918bn to corporate bonds.

Gilts have been purchased within a 5-25 year buying window, and the Bank has purchased 16 separate gilts with a total nominal value of approximately £108bn (the price the BoE pays for the gilts is different than the nominal value).

The total nominal value of these gilts in issue is £295bn, but some £60bn of these are held by the Government for use in the various financial intervention programmes that have been in play to assist banks, so the 'free float' of these gilts only amounts to £235bn. Therefore the BoE now owns over 45% of the free float. That's a very hefty chunk of the market.

This raises the question of whether the BoE may have been forced to pause its QE programme for a while, even if it had wanted to continue it. The amount of money it's printing is so great that even the normally deep and liquid gilts market will struggle to take much more intervention until the DMO issues a lot more gilts (which it's going to).

The BoE could buy shorter-dated gilts of course, but there are reasons why this might be problematic (a lot of foreign investors would probably sell; commercial banks would also likely be sellers which somewhat neutralises the effect of QE; and the gilts may soon mature which would quickly unwind the QE).

Long-term gilts and index-linked gilts are also a problem. These are largely held by pension funds and insurance companies and form a key part of their asset base in order to match long-term liabilities. I'm sure the DMO would be reluctant to see this area of the market destabilised.

In short, money printing by buying up assets isn't as easy as you might think when the sums involved are very large. There just aren't enough high quality, highly liquid assets out there to buy without undermining the normal functioning of markets and creating unintended consequences.

This doesn't mean we've seen the end of QE, just that if the BoE wants to keep printing it will probably need to do so a little slower from now on.

[yellerkat]

Thanks, FreeTrader.

Excellent piece, as always.

[libspero]

Thanks, FreeTrader.

Excellent piece, as always.

+1

[Mikhail Liebenstein]

http://online.wsj.com/article/BT-CO-20090729-705976.html

Looks like the Government has starting giving Gilts away - this is the equivalent of going to a Pawnbroker.

LONDON (Dow Jones)--The U.K. government's latest gilt auction attracted solid demand Wednesday, data from the U.K. Debt Management Office showed.

The GBP5.0 billion reopening of the 2.25% March 2014 Treasury gilt resulted in a bid-to-cover ratio of 1.97 times, down from 2.56 at the previous auction of this bond, held July 1.

Meanwhile, the yield "tail", the difference between the average and highest yields, a gauge of demand, rose to 1.4 basis points, versus the 0.9 bps outcome at the previous tender.

John Wraith, head of sterling rates products at Royal Bank of Canada Capital Markets, said the bond looked "indisputably cheap on the yield curve and on an asset swap basis."

Wraith noted seasonal illiquidity and balance sheet constraints possibly contributed to the lower cover ratio.

Mark Capleton, head of market strategy at Royal Bank of Scotland, said that the bond, which falls outside the Bank of England's current asset purchase remit, appeared attractive on a relative value basis.

The September gilt futures contact extended earlier price losses following the auction results, before steadying.

At 0945 GMT, September gilts were down 0.20 on the day at 115.92, from around 116.02 at the time the results were announced, having briefly moved down to 115.88.

The Bank of England will conduct a GBP2.0 billion buyback of eligible gilts in the 2014-2019 maturity bracket via a reverse auction later Wednesday, likely to be the last instalment of the Bank's current GBP125.0 billion asset purchase program.

[shedfish]

...a bid-to-cover ratio of 1.97 times...

a quick question, if anyone knows.... it's been mentioned elsewhere that in the US at least, with their compulsory cover by the primary dealers, a bid /cover of less than 2 is effectively less than 1 (since the PD 'bids' are counted alongside all others).

is it the same in the UK? i.e. is 1.97 a partially uncovered auction?

[FreeTrader]

a quick question, if anyone knows.... it's been mentioned elsewhere that in the US at least, with their compulsory cover by the primary dealers, a bid /cover of less than 2 is effectively less than 1 (since the PD 'bids' are counted alongside all others).

is it the same in the UK? i.e. is 1.97 a partially uncovered auction?

No, the bid-to-cover needs to be below 1 for a UK auction to be considered a failure. It's not at all unusual for the cover to be below 2, and in fact it was quite regularly below 1.5 in the first quarter of this year.

BTW, I don't think many (if any) bond traders regard a BTC of less than 2 as a 'fail' in a US Treasury auction, and I'm not quite sure why Wednesday's result created such a fuss (admittedly it was bad because of the high tail, but it was hardly Armageddon stuff). There were auctions with cover of less than 2 in 2008 (e.g. 13/03/08 10-yr with cover of 1.79), and many more in the years prior to that. If you go back to the 90's it wasn't that rare either.

[ParticleMan]

The amount of money it's printing is so great that even the normally deep and liquid gilts market will struggle to take much more intervention until the DMO issues a lot more gilts (which it's going to).

Perhaps the primary market is finally choking on its own bile, however I strongly suspect that the structure of the market itself is the problem rather than liquidity - there's very little point participating as a non-prime brokerage at this juncture (which is in itself interesting, as it implies that pricing within this market is liable to be wildly inefficient).

The BOE would do well to consider how they can open up this market to proprietary trading funds.

[FreeTrader]

Perhaps the primary market is finally choking on its own bile, however I strongly suspect that the structure of the market itself is the problem rather than liquidity - there's very little point participating as a non-prime brokerage at this juncture (which is in itself interesting, as it implies that pricing within this market is liable to be wildly inefficient).

The BOE would do well to consider how they can open up this market to proprietary trading funds.

I'm in the same boat, and I would have liked to be able to take advantage of the artbitrage that's been available to the market-makers. However I have a somewhat conspiratorial view that the BoE has been quite happy to line the pockets of the GEMMs over the course of the QE programme.

What probably gives the BoE cause for despair (and I thought Mervyn King showed signs of expressing this at the Treasury Committee hearing) is that instead of retaining the profits and building capital, they're still wedded to the same bonus system and hence foregoing the opportunity to bolster their capital base with the BoE's free handout.

Additionally, I'm not sure how much this would be in DMO's turf as opposed to the BoE's. Admittedly in the primary market we're seeing the increased use of syndication rather than straight auction this year, but I'm guessing it must rankle with the DMO that they're now having to hawk gilts like this.

The danger with changing the incumbent system by increasing the involvement of proprietary trading funds is that they undermine the investor base that has traditionally held gilts. You'll know what I mean when I say there's the risk of replacing slow money with fast money. Liquidity may increase, but will it be at the expense of volatility over the longer-term? (seemingly contradictory).

Still, needs must I suppose, and markets change to reflect new realities. They've got a shedload of gilts to sell, and no doubt they'll try every method under the sun to get them away. When I get a knock on the door in five years' time and there's some wide-boy trying to sell me £500 of 4% 2022 on special offer, I'll know we've reached the endgame.