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Exuberance Can Burn

03 July 2019 by jbchevrel

CDS in Europe enjoyed another strong session today. The iTraxx Main tightened 1bp, roughly in line with the Senior Financials index, despite the fact that SX7E index outperformed (up +2.5% vs ‘just’ +0.9% for SX5E and SXXP). The continued tightening in intra-EMU spreads (10y BTP/DBR rally is now c90bp tighter since the end of May, we broke the 2% level today) boiled peripheral risk. Thus, BBVASLAC (-4) ISPIM (-6.5) BACRED & UCGIM (-5.5) were the outperformers, against a backdrop of soaring stocks (ISP +5% UCG +5.6%). Data-wise, services and composite PMIs for June printed broadly in line with expectations in the region, services seem to remain the strong link in Western European. As far as the ECB is concerned, the news that Lagarde will replace Draghi this autumn is broadly seen as heralding continuity of what we saw over the past eight years, in terms of reaction function. Whether or not Eurozone leaders have any kind of choice in this matter is another debate. Banque de France’s president Villeroy de Gaulhau has been repeating Draghi's dovish Sintra message today (“there must be no doubt about our determination to act, nor our means to act”, “regarding our means, we are in no way out of ammunition”) before recalling the four tools (short term rates, forward guidance on rates, volume of assets held under APP, liquidity for banks via TLTRO). Against that backdrop, sell-side analysts keep gradually revising their ECB calls, expecting more and more easing in H2. Some had been calling for a -10bp depo rate cut in SEP. Some others are now expecting the ECB to announce an APP restart in DEC, in which it will buy roughly c€40B per month (net purchases, as opposed to just reinvest) for 6 to 9 months. € QE wouldn’t have lasted for long... If that is correct, based on historical CSPP/APP ratios, it can then be fair to assume that roughly c€4B per month would be allocated to corporate bonds (€ senior IG non-financial) net purchases, which would equate to between ½ and 2/3 of the net supply.