Hawkish ECB Tapering Surprise to Give Bigger Jolt to Euro, Bunds

(Bloomberg) -- A decision by the European Central Bank to limit monthly bond purchases to as little as 20 billion euros may jolt the euro and German bonds more than other potential tapering outcomes.

The common currency is likely to trade above $1.20 and bund yields could surge to the highest since 2015 under this hawkish scenario, which includes purchases continuing only for six months, according to Bloomberg surveys of strategists. A more gradual wind down of stimulus is expected to elicit more tempered moves in a market positioned for a relatively benign outcome. The calls highlight the uncertainty investors face at the ECB's Oct. 26 meeting.

ECB President Mario Draghi has fueled tapering expectations after saying the Governing Council intends this month to take the “bulk” of the decisions on the future of its bond-buying plan, currently scheduled to run until December. Economists expect Draghi to say purchases will continue until September next year at a reduced pace of 30 billion euros ($35.3 billion) a month from the current 60-billion euro rate, a separate Bloomberg survey showed.

A scenario where the ECB only cuts to 40 billion euros a month and keeps the stimulus running for a year could result in the euro falling to $1.16 and bund yields falling to 0.3 percent, strategists said. Positioning by leveraged and interbank investors is for a dovish to neutral result, according to traders in Europe, though short-term risk reversals suggest some investors are hedging upside risks for the currency in case of a hawkish decision.

“The market's response will be based on how credible the ECB is in signaling they can extend further,” said Martin van Vliet, a senior interest-rate strategist at ING Groep NV. He said they have a “mild bearish” bias on rates and spreads going into the meeting as markets are likely positioned “for a dovish outcome.”

Short Bunds Into ECB Meeting, Says Growing Chorus of Strategists

The yield on benchmark 10-year bunds climbed four basis points to 0.47 percent on Tuesday, having risen 11 basis points over the past week. The euro was 0.1 percent higher at $1.1759 as of 11:20 a.m. in London, having gained 12 percent this year.

Below is the survey summary and a compilation of views on the potential German bund yield and euro reactions in the spot market:

Dovish Surprise:

• 10-year bund yields median: 0.30%; euro/dollar median: $1.1600
• For Mizuho strategist Antoine Bouvet, bund yields will likely still stay depressed until any rate hike begins to materialize, with fair value at 0.2 percent. A dovish surprise could see yields drop to 0.1 percent, he said
• On the euro, a dovish surprise could see the currency drop below its major support of $1.1660/70, according to Ned Rumpeltin, European head of currency strategy at Toronto-Dominion Bank in London; the pair could settle around the $1.1585 level on the day, he said

Consensus Outcome:

• 10-year bund yields median: 0.45%; euro/dollar median: $1.1800
• A neutral outcome will be near the market consensus of 30 billion euros per month for nine months starting January
• That matches Morgan Stanley's call, where strategists Elaine Lin and Federico Manicardi see the central bank keeping its options open and is “unlikely to commit to a firm deadline” of its QE program
  • They see a more “gradual renormalization” so see “carry trades will be supported for longer, both in core rates and sovereign spreads”
  • Recommend long 5s on 2s5s10s Bund fly and long 5y BTPei
• On a neutral outcome the euro is likely to settle around $1.18, according to the Bloomberg survey, with analysts saying moves would be limited as this is baked into the price

Hawkish Surprise:


• 10-year bund yields median: 0.63%; euro/dollar median: $1.2000
• Citigroup's house view is for a hawkish outcome, according to analyst Jamie Searle
  • It is “bearish into the meeting, with potential for a knee-jerk 10-15bp sell-off in 10s. The net supply trend into 2018 also makes us bearish for the medium-term”
  • However, if the sell-off overshoots and 10-year bund yields get to around 0.65%, Citi said they “would be buyers, once the dust has settled, on expectation of higher duration and front-loaded Bund PSPP purchases in the coming weeks”
• ING Groep NV are also positioned for a hawkish surprise as it expects monthly purchases to be slashed to 25 billion euros
  • “We look for a knee-jerk reaction in EUR/USD higher, potentially testing the 1.20 level in response,” said Petr Krpata, chief EMEA currency and interest-rate strategist
  • Gains could be limited ahead of Italian election risks in 2018 and if the ECB adopts the lower-for-longer approach, he says

  The following banks' forecasts were included in the surveys: Banco Santander SA, Citigroup Inc., Commerzbank AG, Credit Agricole SA, Danske Bank A/S, ING Groep NV, Mizuho Bank Ltd., MUFG, Nordea Bank AB, Rabobank International, Royal Bank of Canada, Societe Generale SA, Standard Chartered Plc, Toronto-Dominion Bank

  --With assistance from Hayley Warren and Vassilis Karamanis

  To contact the reporters on this story: Anooja Debnath in London at adebnath@bloomberg.net, John Ainger in London at jainger@bloomberg.net.

  To contact the editors responsible for this story: Ven Ram at vram1@bloomberg.net, Neil Chatterjee, Scott Hamilton

  ©2017 Bloomberg L.P.

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