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Bunds in demand as Ukraine faces uncertain times

Over the past month, markets have rapidly adjusted to the realities of post-QE and QT. This is most evident in Bund swap spreads, but similar trends were also seen in the USD/EUR cross-currency basis, which has shared the same pattern as risk-premia into the looming year-end was reassessed. The shared trends suggest that concerns about German credit amid political instability were less influential, though they likely contributed to the overall movement.

Tuesday’s market reaction to headlines pointing to an escalation in the Ukraine conflict showed that the risk-off reflexes are still working. Bunds were the main recipient of safe-haven flows, outperforming other European government bonds with the 10y initially outperforming versus swaps by almost 4bp. The 10Y yield still sits slightly above swaps and time will tell how lasting the move will be or whether it is seen as an opportunity to jump back on the Bund underperformance trade. So far, the spread performance has been more resilient than the immediate reaction to headlines. However, recent history has shown that Bunds have had a weaker and shorter-lived response to risk-off events, such as the French election turmoil.

We still think that the levels broadly around 5bp above swaps could mark an equilibrium around which 10y Bund spreads evolve with risk-off episodes and supply as well as political turmoil continuing to add volatility. Recall that the equivalent spread of around 20bp above OIS was last observed in 2014 ahead of the European Central Bank's QE.

Today’s events and market view

UK October CPI data this morning came in hotter than expected with services inflation at 5% year-on-year and core CPI at 3.3% versus an estimated 3.1%. However, leaving out categories the Bank has told us it cares less about, our economist calculates that this "core-services" measure fell from 4.8% to 4.5%.

The data calendar remains lighter after the release of the UK CPI in the morning, although the ECB will release its indicator for negotiated wages in the third quarter today. A rise here, mainly given developments in Germany, is likely to garner some headlines amid markets that have become a tad more cautious about pricing aggressive easing from the ECB. We still think Friday’s PMIs will be key. Also look out for more commentary from ECB members, including de Guindos and Stournaras, while the ECB will also release its Financial Stability Review.

In primary markets, Germany will tap two bonds in the 30Y part of the curve for €1bn each. Later the US Treasury will sell a new 20Y bond for US$16bn.

Bitcoin’s potential climb to the $100,000 price level has captivated investors for years. While retail participants often celebrate such psychological milestones, the key impact should come from institutional adoption and advancements in the Bitcoin derivatives markets.

Bitcoin futures aggregate open interest, BTC. Source: CoinGlass

Institutional adoption is critical to translating Bitcoin's $100,000 milestone into meaningful derivatives market growth. Spot ETF options, for instance, could enable complex strategies like income generation through covered calls or hedging liquidity risks. As institutions grow more comfortable with Bitcoin as a reserve asset, the derivatives market will likely evolve to accommodate their sophisticated needs.

Example of covered call expected return. Source: CME

Source: Cointelegraph

Source: Reuters

Crude oil flows from Kurdistan could return to the market next year, after the Kurdistan regional government and the central Iraqi government in Baghdad agreed a new production sharing agreement that satisfies both sides.

“Previously, the KRG signed several agreements with the federal government regarding oil exports. However, the Iraqi budget law set oil extraction and transportation costs at $6 per barrel, which became a major obstacle to oil exports,” the acting minister of natural resources for the Kurdistan semi-autonomous region told local media publication Kurdistan 24.

Following the negotiations, the extraction and transportation costs were revised up to $20.6 per barrel, of which $16 per barrel would go to companies active in Kurdistan in the first phase of the new agreement, Kamal Mohammad Salih told the publication.

Deliveries of Kurdish crude oil have been suspended for over a year amid a dispute between the central government in Baghdad and Turkey over who had the power to authorize these deliveries.

The impasse followed an International Chamber of Commerce ruling from March 2023. The ICC ruled in favor of Iraq, which had argued that Turkey should not allow Kurdish oil exports via the Iraq-Turkey pipeline and the Turkish port of Ceyhan without approval from the federal government of Iraq.

The original dispute then morphed into the long-running debate between Erbil and Baghdad about how to divide the oil profits between the central Iraqi government and the government of the semi-autonomous oil-rich region.

The latest report out of Kurdistan suggests this may have finally been concluded with a mutually beneficial agreement that features the stipulation for an independent audit the oil extraction and transportation costs for Kurdish oil. “The firm will be given 60 days to determine the actual costs following the budget law amendment,” Salih explained.

Iraq is OPEC’s second-largest oil producer after Saudi Arabia. A solid chunk of its total comes from the fields in the northern Kurdistan region.

Source: OILPRICE