Shrinking bond sales by euro-region governments are poised to magnify the market impact of the European Central Bank’s stimulus plan next year, whatever its policy decision on Thursday.
Gross issuance will fall 3.9 percent to 863 billion euros ($917 billion) from last year’s level, according to the average of six estimates from banks. That will reduce freely tradeable debt. With the ECB’s quantitative easing already sucking 60 billion euros a month from the market, any possible expansion of that program on Thursday may also begin to crimp trading in 2016.
“We certainly see a turnaround in debt issuance which doesn’t make it easy for the ECB to achieve its target,” said Christian Lenk, a rates strategist at DZ Bank AG in Frankfurt. “The universe of bonds available for the ECB is not growing into the sky.”
Public-budget deficits are narrowing across the euro area because of austerity measures, reducing the flow of new bonds into the market. Since QE is a strategy to buy and hold, investors are reviving concerns they had in early 2015 that the ECB might struggle to find sellers. That may damp liquidity and make prices more volatile.
DZ Bank forecasts euro-region issuance will fall to 860 billion euros, the least since 2012, from about 895 billion euros in 2015. The German bank’s strategists said if interest rates and QE’s parameters remain relatively unchanged, then the ECB will have acquired all eligible debt by November 2016.
This time frame can be extended if ECB policy makers on Thursday cut the deposit rate, as is anticipated by the market. That would loosen one parameter, neutralizing some of the effect of lower issuance. At the same time, there’s a risk governments will miss their budget forecasts for new spending, such as for resettling refugees.
A 2 percent drop in sales to 875 billion euros next year — the forecast by Landesbank Baden-Wurttemberg strategist Elmar Voelker– will mean the ECB purchases twice the volume of net issuance. This will happen if policy makers extend buying through all of 2016 instead of the targeted end date of September 2016, under Voelker’s scenario.
“There is the question of scarcity, which may become an issue for 2016 especially if monetary purchases are bigger,” said Marc-Henri Thoumin, a fixed-income strategist at Societe Generale SA in London. “A slight increase of monthly purchases will require them to buy almost 100 percent of bunds eligible.”
Thoumin expects issuance to decline to 861 billion euros from an estimated 891 billion euros in 2015.
The ECB won’t want to encourage a Japanese-style sovereign debt market, Thoumin said. The share of debt outstanding that’s owned by the Bank of Japan — the nation’s central bank — will swell to half the market by 2017, according to Bank of America Corp., and there is little trading. Liquidity is already a concern in the euro area, and things will get worse if there is a sharp increase in monthly buying, Thoumin said.
The ECB and national central banks have set up security- lending facilities in an effort to stop liquidity drying up in the region’s debt markets. The programs allow banks to borrow securities needed in exchange for debt collateral to ease concern that purchases will lead to a scarcity of bonds.
Michael Michaelides, a fixed-income strategist at Royal Bank of Scotland Group Plc in London, doesn’t share the scarcity concerns. He said that even if the ECB doubles its purchases, there are still enough eligible bonds to complete the current buying program.
“The issuance forecast coming down might just mean the market impact is a little bit more aggressive in certain countries,” Michaelides said. “The total debt stock is still significantly up on previous years.”