The fierce fixed income sell-off has been mostly technical in nature and in our view created value in the short end of the German yield curve. However, increasing US yields ahead of the first Fed hike are expected to have a spillover effect on Germany and lead to slightly higher long German bond yields. We recommend to be short duration in the period up to the expected Fed hike in September.
However, we do not expect a new long bond bear market. We need to get closer to ECB exit for that to happen.
Since a rise in yields from here is expected to be driven by the US, we look for wider US-German yield spread in the 5-10 year sector. We recommend to position for spread widening between the US and Germany in 5-year bonds.
The sell-off has created opportunities for carry trades as an ECB hike is still very far away. We see value in 2-5 year euro bonds and euro swaps after the big shake-out. However, given the expected spill-over from US yields we believe it is too early to play the carry game in core markets.
Spreads in the periphery have widened the recent shake-out and we find spreads attractive in the short end.
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