The public sector debt market is treading water again after a strong few weeks as upcoming political and monetary policy events weigh on sentiment and play havoc with government bond spreads. The European Stability Mechanism and KfW this week struggled to generate demand for bond deals despite reasonable price tags on both, as various uncertainties start to affect investor willingness to put money to work.
"We are now at a point where yields are very low and curves are very flat, and we could embark upon a hiking cycle in the US, and another round of QE in Europe," said one DCM official covering public sector debt. "We haven't seen major central banks in Europe and the US diverge like this since 1994. I would suggest there is a serious amount of uncertainty on how this will all pan out."
In addition to upcoming central bank events, there was a sharp reminder of the undercurrent of political risk in the eurozone after Portugal's government was ousted on Tuesday. The minority right-wing government led by Pedro Passos Coelho was ousted after parliament voted against its pro-austerity programme by 123 to 107. "Portugal 10-year sovereign spreads have increased to over 215bp versus Bunds and more than 90bp versus 10-year Spanish Bonos. The political uncertainty takes place against a background of still-elevated private and public debt," Barclays analysts said in a note.
The result also added further fuel to the anti-austerity fire in Spain ahead of December elections there. Unsurprisingly, eurozone sovereign bonds have been volatile. France's 10-year bond yields, for example, rose a whopping 30bp in the fortnight leading up to November 6 - to 1% - before falling again to 0.89% by Friday morning. This is still 19bp over the 0.70% level on October 28. As a result of all this uncertainty, the ESM, which has had an exemplary post-summer run in the capital markets, experienced a sharp drop in popularity this week.
Europe's crisis management fund had 2bn to raise to complete its funding programme for the year. However, it was only able to print a 1.5bn size on the 1.625% November 2036 deal, with books topping 1.75bn excluding joint lead manager orders. On its three previous trades, demand reached between 3.5bn and 8.5bn. It was a similar story for KfW in the US dollar market. The borrower offered a premium to get a US $1bn five-year Green bond away on Tuesday to counter swap spreads going negative in the five-year space earlier this month. Despite this, it generated an order book of only US $1.4bn. While this is a comfortable deal for the Germany-guaranteed issuer, it does not bode well for the market, observers said. "The KfW pricing looked very generous. So to only get a US $1.4bn book suggests fears over swap spreads aren't completely unfounded," said one SSA syndicate official. Bankers were hopeful just two weeks ago that issuers would look to pre-fund heavily in November and December.
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