Fixed Income outlook from Iain Stealey, portfolio manager in the International Fixed Income Group at J.P. Morgan Asset Management.
"One down, but still some event risk to go: markets continue to react favourably to the substantial actions taken by central banks. Their move from a reactive to a proactive function has taken away the near term tail risk that was lingering over markets during the summer months. And the cards have continued to fall into place, the ECB's proposed Outright Monetary Transactions (OMT) program has encouraged Moody's, the rating agency, to affirm Spain's long term credit rating at Baa3 (although still outlook negative) as it believes it will allow it to maintain access to capital markets. Moody's has never before spared a Baa3 country from being junked after putting them on Credit Watch Negative. This marks an important step for Spain as it removes the fear of a forced selling following the loss of its investment grade rating. However, it must be remembered that the ECB's offer to help Spain remains subject to a prior signing of a memorandum of understanding (MoU) and a prior request for an ESM credit line. The expectation is that Prime Minister Rajoy has no choice but to put pen to paper; the question now is when this will occur. Ironically, Moody's affirmation could postpone Spain's request for bailout as the threat of a near-term downgrade has now been removed.
"So where can the fireworks come from? Failure to sign the MoU would have negative implications for Spain. If this drags on, the rest of the Eurozone and investors will be carefully watching how this plays out. With all eyes on Europe it is worth remembering that as we move into November, event risk picks up with US presidential elections, fiscal cliff discussions, and pending Chinese leadership changes. All of these events factor into the global economy and will be followed with keen interest. The actions of central banks have driven volatility down and any negative surprises during the month could disrupt this favourable environment. Yet, given the pile of cash desperate for yield, any risk sell off would likely be seen as a buying opportunity."
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