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Société Générale: Liquidates its profits on Greek bonds

Her Eleftherias Kourtali

Société Générale sees significant opportunities for further expansion of the region’s spreads due to the risk-off environment and the ECB’s policy change. As he notes, the recent trade he proposed to Greek bonds “made” profits and thus liquidates its positions.

According to the French bank, the risk-off climate helped reduce the recent expansion of the region’s bond spreads, as interest rate expectations were corrected and the German bond rallied. While the odds are for higher spreads at the end of the year, Société Générale estimates that we could see some stabilization, with less room for higher interest rate expectations and demand to reappear at these attractive levels of absolute return. The recent rise in non-Eurozone market flows (eg from Japanese investors) supports this view.

Thus, SocGen remains neutral for the spreads of the Eurozone and especially for the 10-year Italian bond against the German one at 200 basis points, but finds risks of expansion to 230 bp. at the end of 2022. The 5-15 year and 5-20 year curves of Greek bonds have become more steep and for this reason the French bank liquidates the recent -profitable as it turned out- trade that it proposed when at the beginning of the month had seen opportunities for significant gains on Greek bonds.

2022 proves to be an impressive year for the volatility of the bond market, as SocGen points out. Monetary policy uncertainty has contributed to this, especially in the context of stubbornly high inflation (spreading beyond energy), the remnants of the global pandemic and the possible effects of the conflict in Ukraine. Assessing aggressive monetary tightening for 2022, markets are now considering the risks and following a risk-off strategy, with spreads expected to follow an upward trend for the rest of the year.

According to SocGen, eurozone bond yields remain extremely volatile, with economic concerns strongly affecting a below-average liquidity market. A recent rise in gas prices in Europe (based on news of a break in gas supplies from Russia) reinforces the risk environment for stocks. This fuels even more uncertainty about the central bank’s response to rising inflation in general. “It is difficult to see a rapid change in this uncertain environment soon, with central banks unlikely to change their rhetoric before making some interest rate hikes,” he said.

An economic contraction could affect spreads through at least two channels: by weakening governments ‘creditworthiness or by changing investors’ risk-taking dispositions, according to SocGen. Lower GDP growth weakens governments ‘ability to generate tax revenue and increases the need for a fiscal package, which leads to higher borrowing needs and higher debt levels, and undermines governments’ ability to repay debt. The huge credit crunch after the 2008-2009 financial crisis has shown how an economic downturn can turn into a government credit crunch. A sell-off in the markets after a recession could also weaken investors’ ability to take risks and move away from risk assets, thus widening spreads.

Developments after COVID-19 seem optimistic, as many once fragile countries (eg Greece) have embarked on structural reforms and economies have recovered rapidly, the bank notes. Most European countries have avoided a downturn, and average credit ratings have generally improved since 2021, with fears of debt sustainability far less pronounced than in the past. For example, a recent upgrade of Greece by S&P (to BB +) in late April was followed by the upgrade of Ireland to A1 last week by Moody’s and a positive outlook for Portugal by Fitch. Everything is based on the strong fiscal performance of states despite their once fragile credit profiles. The credit rating of eurozone bonds will remain strong unless the recession turns into a protracted fiscal problem.

In any case, with inflation rising, the ECB has been left with tools such as PEPP reinvestment flexibility, which according to SocGen have limited effectiveness in limiting country-wide spreads. This means that spreads will show an upward trend for the rest of the year, especially with the ECB no longer raising its positions from July.

Société Générale: Liquidates its profits on Greek bonds

In this context, as SocGen emphasizes, it liquidates its profits from trade in Greek bonds. While regional spreads have been declining over the past week, Greek bonds stand out as their curve rises sharply. The bank had underlined its distortion in the Greek curve at the beginning of the month and estimated that it would become more steep in 5-15 years or 5-20 years. Since then, the 5-15 and 5-20 year spreads have expanded by about 60 basis points and exceed the target of 70 basis points. As the curves have become steeper and the Greek bond market is volatile, it closes its trade with a profit.

Source: Capital

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