The plunge in oil prices has raised the risks that the ECB will not hit its inflation target, even with European growth showing solid upside momentum. Additional ECB easing measures are likely in March. What are the best ways to play for additional ECB easing in European fixed income markets?
Our global fixed income strategists don't think increasing core duration exposure is the way to go. Longer-dated yields in Germany and France are already at very overvalued levels and the experience of the sharp German Bund selloff last April highlights the risks of extrapolating yields to zero, even during a QE program.
Putting on curve trades (like a bull flattener) in core Europe is also not advised, given how directional the yield curve has become with the overvalued level of yields. Inflation expectations should be expected to widen in the event of more ECB easing, but the path of CPI swap rates and inflation breakevens will still be determined by the trajectory of oil prices in the next few months, making inflation trades a risky bet.
We think that any new easing measures will most likely benefit Peripheral spreads the most - please see the next Insight, (Part II) How To Play Fresh ECB Easing?
BCA Research Inc. issued this content on 28 January 2016 and is solely responsible for the information contained herein. Distributed by Public, unedited and unaltered, on 28 January 2016 21:37:10 UTC
Original Document: http://blog.bcaresearch.com/how-to-play-fresh-ecb-easing
