Divyang Shah, Senior IFR Strategist
When it comes to the money markets there are two themes that have helped to raise the EONIA curve:
1) the dislocation in the markets that followed the FOMC meeting which led to a clean out of many positions
2) the continuing payback of 3-year LTRO funds raising the prospect of an early removal of excess liquidity. This has seen money markets now price out further ECB rate cuts and the EONIA rate seen trading towards the refi rate.
At a time when the eurozone is experiencing low inflation and growth is far from being on a recovery trend, the tighter money market conditions are far from welcome.
The ECB will look to soothe concerns over the rate outlook and reiterate that inflation, economy and unemployment justify keeping the door open to further easing. Indeed had it not been for Buba’s Weidmann the ECB would have likely cut the refi rate by 50bps in May as opposed to the 25bp that was delivered.
We are likely to get a softer more dovish message from Draghi to allow money markets to be comforted and further reverse some of the tightness that has crept into the shorter dated interest rates.
Cognisant of the volatility we suggested a 50% short at 45bp and receive 12x24 EONIA with a stop at a wider 60bp.
In addition we have looked at a Jun5 Euribor call spread with 99.375-99.500 strikes.
