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Monday, 23 October 2017

A day when phat fingers upset the French bond market

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Anthony Peters, SwissInvest Strategist

Government bond auctions come and go. There is barely a day of the year when some debt management agency or the other isn’t out there rolling debt and, other than the government bond desk, nobody really cares.

The days when the Long Bond Trader was the alpha male on the trading floor are long gone and bid-to-cover ratios, tails and stops are now treated as arcane rather than main stream. Then, from time to time, something happens which brightens up one’s day while destroying someone else’s. Yesterday was one of those days.

France was holding nothing other than a regular refunding auction with the added frisson of a new 10-year benchmark OAT being introduced, the 3% 25 April 2022. So far nothing special.

However, when the results of the auction were published it proved to be more than just normal. The first staggering piece of news was that one single bidder had taken down €2.6bn of the total of €5.7bn of the new bond, that a second bidder had taken €600m and that something had gone horribly wrong.

Apparently one house had made  a severe mistake in its bid submission and had bid a whole point above the market. More to the point, the Agence France Tresor (AFT) had accepted the bid and filled the bidder in €375m of the new bond. That’s a loss of €3.5m to the bidder and a career breaking event for some poor sod out there.

I do know that the Debt Management Office in London scrutinises the bids it receives in order to filter out blatant mistakes – which do occur – and I believe most other agencies would do the same. Even a fully automated bidding, allocation and reporting system would be expected to have points at which divergence from the mean would be flagged where the red lights would begin flashing and the alarm bells ringing.

No such thing in this case and if the systems do exist, they were not implemented. However, the seismic waves spread further as the mis-bid for €325m, representing about 6% of the total, pushed the average price higher, thus freezing out many banks who had bid the right price, who had clients behind them and who were now short of stock.

The subsequent scramble saw the OAT/Bund spread tighten by 15bp whereby the new 10-year will be trading at 9bp back of the current benchmark and the spread will duly look wider. Nevertheless, how and why the AFT stuffed the house with the blatant error should be opened to a stewards enquiry and, as in the open market, the trade should be repriced. I do hope that there are not two sets of rules, one for us and another one for the authorities. The furore over the ECB and the value of its Greek bond holdings falls into the same category. What standards can be imposed on us by those who cannot lead from the front?

McBond off like a rocket

Meanwhile, in the US corporate bond market I saw something I have never seen before. McDonald’s – I don’t think that I have to explain what their business is – reopened a 10-year issue and launched a new 30-year bond in the process. Nothing special there. However, the spread on the 10-year reopening had been suggested at about 65bp above the 10-year Treasury, given that the bond was trading +62/+57 before the announcement.

However, the book took off like a rocket. By the time price guidance was given, the talk was of the reopening being priced at the +55bp area (that is +55bp +/–3bp) and in the event the deal was launched at +52bp which is 10bp tighter than where it had been trading before the reopening was announced.

This is highly unusual and the result was that by the close of business the bond was trading at +55bp again which is wider than the pricing but still 7bp tighter than it had been in the morning. If anyone is looking for an indication that bonds from high quality issuers remain demanded in excess of the supply available, just look at what happened here.

May the Yanks understand that a try is only a success if it touches down, but then please go on to explain to us why for them a touch-down is one when it isn’t. Odd!

Although bonds in the cross-over space seem to make up the majority of trading volumes, these are largely being pushed around by dealers and hedgies who love the volatility but which are of little use to insurers who want to carry their risk on the liability side of the balance sheet, not in the asset book. The bid will remain strong.

Alas, it is that time of the week again and all that remains is for me to wish you and yours a happy and peaceful weekend. With the Six Nations rugby kicking off tomorrow with, among other, England playing in Scotland while the Americans close their oval ball season with the Superbowl on Sunday, may the Yanks understand that a try is only a success if it touches down, but then please go on to explain to us why for them a touch-down is one when it isn’t. Odd!

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