|Scooped by Mike Baghdady|
The markets started the week on a risk-off mood, following last Friday’s shockingly low non-farm payroll print. The poor reading on job creation (+74 compared to market forecasts of job creation coming at +195k) does increase the probability of the Fed deciding not to taper in the January meeting. That said, we think that there is a high probability of the Fed not taking any action this meeting remains quite high.
We think that the Fed will most likely wait to see how the January job creation figure looks like before deciding in favor of taking any action on the policy front (i.e. before refraining from tapering another USD $10 billion from the total monthly purchases). Still, the poor jobs number does present credible question marks to the consensus short treasury exposure (hence the much more tranquil environment that appears to be materializing in the fixed income market).
In Europe, equity markets ended the year on a positive note, and government yields continued to move close to the lows reached recently (Spain’s 10-year bond is now paying 3.81% and Italy is now yielding 3.88% at the 10-year horizon). Of relevance, there were determinations by the Basel Committee on Banking Supervision to dilute the leverage ratio sought from banks and to allow the counting of Central Bank committed liquidity facilities against liquidity coverage ratio rules. “Limited netting” was another of the modified measures that the Basel supervisory committee will allow for the banking industry. Bond auctions were another topic raising hopes within Europe. Italy was able to auction off €8.2 billion of notes with maturities in 2016, 2021 and 2028. Notes maturing in December of 2016 were sold at a record low yield of 1.51%.
Deflationary concerns were marginally abated in Europe, as Greece reported y/y December CPI levels of -1.7% y/y, quite an improvement from the -2.9% y/y that had been present in November. Portugal also made a contribution in this sense, with December CPI coming at +0.2% y/y, above the -0.2% market expectation and also above the -0.2% that had been seen in November. As we argued in our December monthly publication, we continue to think that there is still ample room for lower quality European sovereign bonds to deliver capital gains to investors.
Coming back to the market action, despite the strengthening seen in the EURO ($1.3655) following the poor US employment reading of last Friday, Part of the difficulty could be directly linked to the strong standing of the ¥, which rallied 1.00% (to 103.14), a move also linked to the possibility of the Fed deciding against tapering in January
The US treasury announced that the US fiscal accounts had ended 2013 showing a deficit of USD $560 billion, or some 3.4% of 2013 (expected) nominal GDP. The 12-month deficit moved from a negative USD $614 billion in November to a negative USD $560 billion in December, in large part because of the additional USD $34 billion that Fannie Mae and Freddie Mac credited to the treasury this December, a payment that allowed the December fiscal surplus to reach USD $53.2 billion. According to the authorities, government revenues increased 5.1% y/y in December (from USD $269.5 billion to USD $283.2 billion) and government spending fell to USD $230 billion in December 2013 from USD $270 billion in December 2012 (down 14.8% y/y).
We think that it is very probable that the US fiscal imbalance will fall to less than USD $500 billion in 2014, meaning that the nominal fiscal deficit as a percentage of GDP will end 2014 at about 2.9%. Clearly, the adjustment of the US fiscal imbalance that the markets have seen since 2009 is nothing short of remarkable. The continued reduction on the size of the US fiscal deficit is very positive news for the expected performance of US treasury prices. We continue to forecast that the US 10-year will end 2014 yielding 2.9% and that the 30-year bond will end 2014 at 4%.