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Westhouse: Japanese turbo-charged QE and European government bonds going green

Simon Pettitt, head of fixed income at Westhouse Securities, comments on the rally.

Simon Pettitt, head of fixed income at Westhouse Securities

“This morning is the first time I can remember in a long time when all of the European government bond benchmarks on Bloomberg’s 'WB' bond monitor page are coloured green at the same time.

"This colour means they are all going tighter (prices going up) this morning than yesterday’s close – including the GIPS and recently downgraded UK gilts (a downgrade seems to be the new ASBO badge of honour amongst European sovereign debt issuers nowadays). If they go wider (prices going down) they are coloured red on WB.

“Usually these bonds are divided into 2 groups:- the “risk on” group (Italy & Spain, sometimes Portugal and sometimes Greece) and the “risk off” group (UK, France, Germany, Sweden, Netherlands, Switzerland).

"It is almost always the risk on group who are green when investors have the appetite for more risk (the others being red) or the risk off guys being green when risk appetite dries up (the others in turn going red). This has been a pretty easy green/red indicator of risk appetite in European sovereign bonds for months, with one group mutually excluding the other. So what’s going on if they are all green at the same time?

“Well obviously somebody is buying the bejeezus out of every European sovereign debt market on the WB monitor on Bloomberg, irrespective of risk on or risk off (OK, that’s the last time I use these silly phrases) or GIPS status or not. Italy’s 10 year bond has broken through 4% yield (currently 3.97%) and Spain’s 10 year debt is trading 17 basis points tighter (that’s up about 1 ½ points in price).

“My money is on the Japanese. When you’ve been in the “sub 1% yield club” pretty much on your own for the last 12 months, you might start eyeing up current Bunds and Gilts yields with envy at the heady heights of 1.3% and 1.7%. When it comes to Italy at 4% and Spain at 4.3% these are positively HY levels in sovereign debt space by comparison. Too tempting to refuse?

“But why now? We have been hearing almost daily about the huge waves of liquidity the Japanese government is pumping into buying bonds each month. If you consider that the US Fed is currently buying $85 billion worth of US bonds each month (treasuries and mortgage-backed securities), then the MOF in Japan is buying the pro rata equivalent of about $250 billion of bonds each month. The actual Yen amount is 7.5 trillion each month.

“It’s QE Jim but not as we know it.... Or... its “QE Lance Armstrong” as one commentator recently put it.... What it is, by any yardstick, is huge QE, the like of which no Western government is prepared to contemplate for their own economies so far.

"But, since the weekend, it is now deemed “OK” by the G20 finance ministers for Japan to do this since they gave the Japanese the green light. So I’m guessing that some of this is going into very low yielding Japanese government bonds and possibly more is taking the green light as a literal instruction, going into non-Yen sovereigns, and turning my WB monitor green along the way...

“The only question left is when the Yen/$ will break 100 rather than if...”

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