- Pay EUR 10Y10Y versus receive EUR 5Y5Y (6M basis) in a duration neutral ratio.
- Scale in: open ½ position at 39.50bp with an option to add risk at 30bp.
- Target at 55bp, stop 25bp.
- Roll down: +7bp in 3M, +15 in 6M and +28bp on 12M horizon.
EUR curves flattened in January in a reaction to the short-end sell-off, which caught the market on the wrong foot. We think now is the time to go against this.
At yesterday’s press conference, Mario Draghi managed to tame worries in money markets by delivering a fairly balanced speech. His language fuelled flattening of the EONIA forward curve. In addition, he said that he sees excess liquidity remaining well over EUR200bn after the second LTRO repayment. Data for the repayments of 3Y LTRO loans also suggests that excess liquidity will remain well above EUR200bn for some time. The consensus among watchers is that the EONIA fixing will be little affected when excess liquidity is in this territory. As a final remark, Mario Draghi said that the ECB is ready to provide liquidity as needed. Looking at EONIA and Euribor fixings, we feel comfortable that they have stabilised for now.
In summary, it is our expectation that the pressure at the short-end of the EUR curve seen during most of January should recede. In addition, the overall line in the ECB communication supports a steepening of the EUR swap curve (2/5, 2/10, 10/30, etc.). Also, as the global recovery continues to materialise, we expect further steepening of global swap curves, led by higher long-end US rates. After the washout, we believe that positioning is now more clean. Hence, we are more comfortable entering steepener trades.
Our preferred way of implementing this idea is to pay 10Y10Y EUR swaps versus receiving 5Y5Y EUR swaps. The trade is basically a variation of the 10Y/30Y spread but with more attractive risk-reward, in our view. The current entry level looks slightly better, volatility is less and the roll-down is moderately better. If this trade were to be done as a 10Y/30Y steepening, we would prefer doing it 2Y forward.
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