1. Latest bi-monthly PEPP update: analysis of the numbers and main takeaways:
On 11 March 2021, the ECB announced that it expects “purchases under the PEPP over the next quarter to be conducted at a significantly higher pace than during the first months of this year”. The chart below shows that, following the announcement, the pace has already increased in March with respect to January and February.
Surprisingly, in the past two months, the ECB has increased its purchases of corporate bonds (€4bn over the two months), but this amount still accounts for less than 4% of PEPP purchases and barely exceeded commercial paper redemptions (€3.85bn). We expect the ECB to keep buying mainly government bonds within the PEPP until the end of the program and, if necessary, to increase or decrease the allocation to private bonds in the APP.
We expect the ECB to keep buying mainly government bonds within the PEPP and, if necessary, to increase or decrease the allocation to private bonds in the APP.
The important facts of this latest bimonthly publication are the following:
- Longer maturities bought in the past two months: The weighted average maturity (WAM) of all public-sector bond purchases under the PEPP has increased by almost a year, probably above nine years in February-March 2021. The bulk of the increase in the duration of the PEPP portfolio was recorded in key countries, particularly in Germany and the Netherlands. However, the same trend has also been noted in peripheral countries, such as Italy and Portugal, previously registering a relatively steady decrease in average duration since the start of the program. The generalised increase in duration of ECB purchases probably has two main reasons: (1) The ECB “adapted” its demand to record supply of longer duration debt at the EGB level YTD. (2) Higher bond reinvestments supported the lengthening of German Bunds’ average duration in the PEPP, on the back of increased redemptions of short-term paper bought last year and reinvested in longer instruments in recent months.
- Country breakdown is almost in line with capital keys across all major countries: as peripheral spreads are now hovering around their tightest levels of the past decade, the ECB has continued to follow capital keys in country allocations, with marginal deviations due to limited availability of bonds in smaller issuing countries like Estonia, Malta, Luxembourg, Latvia, Lithuania and Slovakia. As a result, the ECB underbought these countries relative to their capital keys, automatically implying slight overbuying in larger countries like Germany, France, Italy and Spain.
- PEPP purchases of supranationals achieved its target: For the second time in a row, supranational PEPP purchases have reached 10% of public sector bond volumes, the target set under the PSPP. Purchases of supranational bonds were limited at the start of the PEPP, probably also because of their scarcity (the ECB was probably reluctant to hold more than 50% of these bonds). Nevertheless, since the start of EU issuance for the SURE fund (in autumn 2020), the ECB has gained more room for expanding its support to the asset class. We anticipate that the ECB could increase its purchases of supranational bonds when NGEU funding activity begins (expected in late Q2 2021), supporting EU primary market activity through its demand.
We anticipate that the ECB could increase its purchases of supranational bonds when NGEU funding activity begins (expected in late Q2 2021), supporting EU primary market activity through its demand.
2. APP analysis: the focus on CSPP and the support for private programmes (mainly corporates)
In March 2021, the ECB’s net asset purchases under APP increased to €23.3 billion from €21 billion in February. The breakdown by program in APP is as follows: PSPP (€15bn, 64.3% of the total), CSPP (€6.9bn, 29.8%), CBPP3 (€0.7bn, 2.9%) and ABSPP (€0.7bn, 2.9%).
Although the PEPP remains oriented towards the public sector, the CSPP was weighted more heavily in the March APP (up to 30% from 20% in February), confirming that the intensification of the PEPP may lead to a more “private-sector friendly” APP over the next few months. One of Lagarde’s main commitments has been to maintain favourable financing conditions in all markets, including credit, and the ECB has so far achieved effective results. Euro credit spreads were quite resilient and also performed quite well during the March bond selloff. Subsequently, real EUR 10-year rates fell, thanks to the ECB’s verbal intervention (while remaining higher elsewhere). The ECB put has therefore played a big role in reducing rate volatility in recent weeks. Due to strong corporate bond purchases, the ECB’s exposure to European credit has increased over the past six months (see chart below). The average monthly Asset Purchase Program (APP) to Enterprise Sector Purchase Program (CSPP) allocation has increased from 18% between October 2019 and August 2020 to 23% from September 2020 to present. Euro credit spreads were quite resilient and performed well also during March bond selloff, with active primary market for speculative grade bonds supported by investors’ flows. Technical factors are going to remain supported within the IG segment, also thanks to the recent slowdown in supply of corporate debt eligible for the CSPP: huge liquidity accumulated, higher volumes of bank loans and remarkable bond funding achieved last year are likely to prevent net issuance from growing as in 2020, ultimately improving the ECB demand/supply balance.
3. March TLTRO above expectations: main takes for markets and financials
Last but not least, the March tender was the second largest (€330bn) of recent TLTRO III operations, while market expectations pointed to a much lower take-up, with the highest estimates pointing to €250bn and a consensus closer to €100bn. The positive surprise is probably due also to the assumption of large participation by banks but with low take-up by bigger institutions. Our guess is that a higherthan- expected take-up signals that banks are probably confident about reaching needed thresholds in order to benefit from the lowest provided cost of funding, and are also therefore more confident in their credit lending trends over the coming months. The remarkable liquidity injection has had a positive effect in terms of additional monetary stimulus at work, indirectly supporting QE efforts on rates and yields, especially in curve front-ends. Our take is that IG financials’ technicals should be more supported, as well, as debt supply is likely to be lower than previously estimated, on the back of higher reliance on ECB funding.