Positions in Europe: Long German Bonds (BUNL); Short EUR/USD (FXE); Short Greece (GREK)
Central Bankers of the World Unite!
Today ECB President Mario Draghi issued much of what was leaked in recent days – the newly invented Outright Monetary Transactions (OMTs) program. It will buy bonds on the secondary market of Eurozone member states, targeting bonds with maturities of 1-3 years. Draghi stated the program’s goal as: “OMTs will enable us to address severe distortions in government bond markets which originate from, in particular, unfounded fears on the part of investors of the reversibility of the euro.”
Draghi shied away from calling the scope of purchases unlimited, instead he stated that the buying size will be adequate to reach objectives and provide “a full and effective backstop that removes tail risk from the Euro area.” Draghi stated that OMTs buying will be fully sterilized (as to not influence money supply growth); will cover any country to the extent it is warranted (and/or request) with strict conditionality (including the adherence of ongoing fiscal consolidation programs); and that these bonds do not carry a senior creditor status. Of note that is that the Securities Market Program (SMP) will be terminated as of today.
Our skepticism runs high that such market intervention would end favorably for the region or that Draghi can truly remove tail risk from the region, however we expect a significant bounce across European capital markets and the common currency in response to the changing of the goal posts. This is very apparent today, but is it sustainable? Certainly Draghi is out to prove that he can maintain price stability and preserve the common currency – “full stop”.
Concerns with the OMTs:
- While buying on the shorter end of the curve may suppress yields on short-term maturities, what will prevent the longer end from running away?
- How will the ECB decide on the size of its purchases?
- Could this OMTs intervention be complicated by the German Constitutional Court decision on 9/12 regarding the ESM?
- How does Bundesbank President Jens Weidmann, who was the one voice of dissent in today’s decision, complicate the Eurozone’s united policy voice?
- How impactful can this program be – similar to the SMP – until the Eurozone has a structured Fiscal Union?
Interest Rates on Hold
Regarding the policy decision, the council decided that the interest rate on the main refinancing operations and the interest rates on the marginal lending facility and the deposit facility will remain unchanged at 0.75%, 1.50% and 0.00% respectively, which was in line with our forecast.
Interestingly, growth targets were revised down (versus the staff projection from June) as inflation projections were revised up. Again, this represents our fundamental case that despite all the market intervention, prices will (in time) reflect the underlying health (or lack thereof) in the region.
-0.6% and -0.2% for 2012 (versus -0.5% and 0.3%)
-0.4% and 1.4% for 2013 (versus 0.0% and 2.0%)
2.4% and 2.6% for 2012 (versus 2.3% and 2.5%)
1.3% and 2.5% for 2013 (versus 1.0% and 2.2%)
For Draghi’s complete Introductory Statement click here.
For the press release of the Technical features of the OMTs click here.
For the press release of Collateral requirements click here.