-- =DJ GLOBAL YIELD: Rising US Deficit Could Dent Tsys vs Bunds --
By John Parry
Of DOW JONES NEWSWIRES
NEW YORK (Dow Jones)--The burgeoning U.S. budget deficit is a millstone
poised to drag on longer-dated Treasurys and accelerate their existing
underperformance against the main euro-zone rival, German bunds.
Downside risks, in the form of a fiscal stimulus package and the hefty costs
of any U.S.-led war with Iraq, could force substantially higher U.S. government
debt issuance and bruise longer-dated Treasurys, while bunds would be
relatively unscathed, U.S.-based global economists and fixed-income strategists
warn.
"The major widening of the deficit will be in the U.S.," said Jay Bryson,
global economist at Wachovia Securities in Charlotte, N.C.
That's in spite of major euro-zone economies' own struggle to keep their
deficits under control.
Germany, France and Italy have all either ruptured the maximum permitted
budget deficit limit set by the Stability and Growth Pact at 3.0% of gross
domestic product, or are close to doing so. Their respective governments are
expected to ramp up bond issuance, amid a persistently weak economic
environment and dwindling tax receipts.
There is a moment of relative calm on the issuance front for longer
maturities in both markets; the area where government's typically issue most
debt. But that hiatus may be short lived.
For the moment, "in large measure the supply news is already in the price," of
both European and U.S. government bonds, said Steven Mansell, senior interest
rate strategist with BNP Paribas in London.
Yet during the next few weeks, both markets may hit turbulence as governments
unveil debt issuance calendars for the first quarter, Mansell warns.
In 2003, the U.S. federal budget deficit will reach 2.8% of GDP, outstripping
the euro-zone's 2.2%, BNP Paribas economists forecast.
Furthermore, "over the past few weeks, the U.S. has looked like it is moving
toward more fiscal stimulus than before," said Bryson.
The Bush administration's plans for a fiscal stimulus package of around $300
billion over the next decade intended to stoke economic expansion are taking
shape and President Bush's choice of John Snow as his new Treasury Secretary
on Monday is one sign of Bush's determination to press ahead with those plans.
Snow, an industrialist, is expected to favor Bush's plans for fiscal stimulus,
in a way that his predecessor, Paul O'Neill did not, said Kathy Bostjancic,
trading desk economist with Merrill in New York.
Upside Risks To US Deficit
Partly for that reason, "there is upside risk" to Merrill Lynch's forecast for
a $225-billion U.S. budget deficit in the fiscal year through September 2003,
Bostjancic notes. Although that existing forecast already includes a potential
$50 billion cost for a possible war with Iraq, it does not include that of any
additional fiscal stimulus package, Bostjancic points out.
Because issuance of the 30-year Treasury bond remains suspended, much of the
Treasury Department's issuance will be in five- through 10-year maturities, says
Bryson.
Among benchmark, 10-year government bonds, one of the factors already driving
bunds to outperform Treasurys over the past month or so has been the awareness
that the U.S. budget deficit will widen further than in the euro-zone, Bryson
argues.
Global fixed income market participants are not primarily focussed on this
issue yet, because they are mainly scrutinizing central bank monetary policy and
the behavior of equity markets as the keys to the performance of competing
sovereign bond markets.
Still, the fiscal issue is beginning to loom larger in the market's mind,
especially as the chance of a potentially huge bill mainly footed by the U.S.
government for a possible U.S.-led war with Iraq of unforeseen duration becomes
more likely.
The prospect of sharply increased issuance "is not on the front burner yet,
but it's not on the back burner any more", said Bryson.
That is playing into the diverging performance of U.S. and European
sovereigns.
The yield spread of 10-year bunds over equivalent Treasurys has narrowed to 33
basis points Tuesday afternoon in New York, from 58 basis points a month ago, as
bunds have rallied and their yields have fallen toward those of Treasurys.
That yield spread could narrow to zero by the first quarter, but not primarily
because of the Treasury Department's debt issuance plans, said Thomas Sowanick,
chief global fixed income strategist with Merrill Lynch in New York. Instead the
pivotal driver sending Treasurys yields up to level pegging with or even above
those of equivalent bunds would be if the U.S. economy picks up the pace ahead
of Europe's, sending flows out of Treasurys into U.S. equity markets, he said.
-By John Parry; Dow Jones Newswires
john.parry@dowjones.com; 201-938-2096
(END) Dow Jones Newswires
12-10-02 1603ET- - 04 03 PM EST 12-10-02
10-Dec-2002 21:03:00 GMT
Source DJ - Dow Jones |
