Euro covered hopes diminish after brutal sell-off

Volatility sparked by a renewed sell-off in Bunds this week is set to decrease demand for any new euro covered bond benchmarks and divert issuance into shorter maturities, according to bankers, who have reined in supply expectations for the coming weeks.

Yields backed up dramatically in Eurozone government bonds through the week, with 10 year Bund yields rising 37bp between Tuesday and Thursday alone, after higher than expected inflation figures were announced on Tuesday.

“Few, if any, market participants are likely to have seen anything similar in terms of the current price action in core rates and, as measures of trailing volatility continue to spike higher, this is likely to weigh on risk appetite into quarter-end and likely beyond,” said one analyst.

European Central Bank president Mario Draghi on Wednesday offered little solace after a meeting of the central bank’s governing council, telling everyone to “get used to periods of higher volatility”.

Bankers said the market still appeared volatile today (Friday), with the 10 year Bund yield fluctuating between 0.85% and 0.90%.

“The magnitude of the move on rates is obviously adding to the ongoing negative headlines on Greece,” said Vincent Hoarau, head of FIG syndicate at Crédit Agricole CIB, “and the volatility and resulting nervousness are here to stay now that Greece has deferred its IMF payment to the end of June.”

After euro benchmark covered bond supply totalled just Eu2.4bn last month, making it the quietest May in terms of euro benchmark supply in at least a decade, market participants had expected issuance to pick up significantly this month, boosted by increased redemptions.

Some syndicate officials said this morning that they still expect core names to bring new euro benchmark deals to the market, but they added that, in light of this week’s volatility, next week’s supply would probably be more modest than previously anticipated.

Issuers would also have to be mindful of several factors to complete a successful trade, they warned.

“Issuers will have to be mindful of competing supply and greater premiums will be needed to reflect this,” said Hoarau. “And we expect that for the first time issuers will tap the market even if conditions are sub-optimal as they all need to advance in their funding programmes and the situation can get worse – for example, on the back of a new Greek bail-out – while the summer break is looming.

“Investors will meanwhile be more selective and price sensitive than in the past – some have stopped looking at primary and prefer to sit on cash, even if this is costly.”

Another syndicate official suggested a new deal from a core, high quality name would still go well with a new issue premium of 2bp-3bp, citing the outcome of the only euro benchmark trade of the week – a Eu750m eight year Pfandbrief from Münchener Hypothekenbank on Tuesday that was increased from Eu500m and tightened from guidance of mid-swaps less 16bp to less 17bp.

“The one difference we could see is that order books are on the lower end of the range for these sort of deals,” he added.