Weekly Fixed Income Summary : July 02 – 06, 2018

Defensive Bond Market

Outlook. Investors and traders alike are defensive amid brewing local economic and geopolitical changes: (1) the shift to federalism gains traction as President Duterte endorses the consultative committee’s draft of the constitution; (2) faster-than-expected inflation last June of 5.2%, which analysts expect to peak in the third quarter; and (3) higher government borrowing. The national government is estimated to end 2018 with an outstanding debt of Php7.42tn, higher than Php7tn initially targeted. Another round of upward price pressures are expected this quarter, specifically increases in transport fares and electricity rate. Uncertainties in the global oil market plus unfavorable weather conditions that usually appear in the third quarter could push prices of basic goods even higher. The monetary board of the Bangko Sentral ng Pilipinas (BSP) will meet again this August and is expected to hike rates for the third time this year. Other than the belief that the BSP has been behind the curve (with real interest rates still negative), inflation has also still been widely supply-side driven -- rising world crude prices, rice supply shortage, TRAIN -- and had little to do with monetary policy. However, the uncertainty brought about by the louder push for a shift to federalism could sideline bond investors in the near-term and tether the yield curve at current levels.

Market review. The local benchmark yield curve fell by 8bps week-on-week (WoW) on average and up by 90bps YTD amid a defensive market. The spread between the local 10-yr local benchmark and the 10-yr US Treasury (UST) narrowed to 353bps last week from 357bps as the former fell by 7bps to 3.35% (done), while the latter was also down by 3bps WoW to 2.82%. Yields of ROPs also fell by an average of 3bps amid a UST curve which was unchanged during the week.

Average total daily traded volume down 4% week-on-week (WoW) to Php8.3bn. The liquid yield curve fell by an average of 1bp WoW on light trading. The front-end (364-day T-bill) rose by 9bps to 4.56%, the belly (FXTN 10-61: 9.7yrs) shed 2bps to 6.33%, while the tail (R25-01: 20.5yr) likewise fell by 20bps to 7.10%. Secondary trading average volume fell by 8%, dragged by T-bill volume which fell by 29% to Php2.3bn. On the other hand, T-bond trading rose by 10% to Php6bn. Last week, the Bureau of the Treasury’s (BTr) latest Php15bn auction of reissued 10-yr T-bond was completely rejected as bid rates peaked at 7.625%, 127.5bps higher than the previous average accepted and secondary market rate of 6.35%. Total tendered amount also fell short of the programmed Php15bn at just Php14.8bn. Lastly, the latest Php15bn auction of 91-day, 182-day and 364-day T-bill was partially awarded. The BTr fully-awarded the 91-day and 182-day T-bills with average rates of 3.308% and 4.045%, respectively, while the 364-day was only partially awarded with accepted bids capped at an average of 4.670%. The auction was twice oversubscribed.

Emerging Markets’ (EM) 10-year down 13bps week-on-week (WoW). Yields of EM bonds we follow were down by 13bps WoW on news that the OPEC agreed to bring down compliance from 150% to 100% and indicated that production would increase by 1mn bpd, dampening the velocity of upward oil price movement at least in the near-term. Brazil (10-year yield -29bps), Colombia (-21bps), and Turkey (-17bps) outperformed last week, while the Philippines (10-year yield flat) underperformed.

USTs down flat WoW. US Treasuries were flat WoW on average, while the 10-yr UST shed 3bps WoW to 2.82%, amid a holiday-shortened week. The US labor market added 213,000 jobs in June, topping forecasts of 195,000, while unemployment slightly ticked up to 4.0% from 3.8% last May. However, wage growth disappointed at just 27% versus 2.8% expected. US core personal consumption expenditure (PCE) index hit 2% last May, the first time it hit the Fed’s target. Headline PCE rose by 2.3% from 2.0% in April. The data did not move the needle on Fed hike expectations as most analysts still expect at least one more rate hike before the end of the year. Also, last Thursday, the Fed released the minutes of its June 12-13 policy meeting, which revealed that policymakers now believe that risks to economic growth shifted from the upside to broadly balanced. The minutes also highlighted that growing trade fictions weighed on business sentiment and investment spending.