Explaining Why the BTP Rally May Continue

Understanding the Recent Surge in Eurozone Government Bonds

For months, we have been highlighting the potential benefits of investing in long-term Italian government bonds (Btp), specifically the 20-year and 30-year options.
Those who seized this opportunity in previous months are now likely feeling gratified with their savvy choices.

To illustrate the change in values, the Btp 4.50% maturing in 2053, which was trading around 101 in late May, has seen a significant surge, now valued at 108.70 as of October 1st.
Similarly, the Btp 4.45% set to mature in 2043—previously at 101.10—has risen to 108.40.

The Impact of CPI Data on Market Trends

Today marked a pivotal point for Eurozone government bonds, triggered by the release of the Consumer Price Index (CPI) data at 11:00 AM.
As of September 2024, inflation in the Eurozone has dipped below 2% for the first time since mid-2021.
This decline boosts the likelihood of an interest rate cut by the European Central Bank (ECB) this month, as efforts to manage inflation over the past three years approach a resolution.

To be precise, Eurostat reported that inflation across the 20 countries using the euro fell to 1.8% in September from 2.2% in August, defying expectations of 1.9%, due mainly to reduced energy costs and lower prices for consumer goods.

Future Projections and Central Bank Response

Meanwhile, underlying inflation, or core inflation, slightly decreased to 2.7% from 2.8%, signifying slower price growth in services and falling short of the ECB’s anticipated 2.8%.
Previously, high energy costs and post-pandemic supply chain issues spurred inflation beyond 10% at the end of 2022.

A series of rate hikes from the ECB has curbed inflation relatively swiftly, prompting discussions among board members on how quickly to reduce interest rates in upcoming meetings.
The ECB has already lowered rates in both June and September, and President Christine Lagarde hinted at another potential cut this month amid favorable price trends.

A fast-paced reduction in rates was not anticipated until recently, but desperate economic growth reports have created urgency to act swiftly to prevent a recession in the euro area.
The current deposit rate stands at 3.50%, while liquidity provisions for banks are at 3.65%.

Investor Sentiment and Recommendations

As expectations shift toward quicker interest rate cuts, market estimations have surged to an 85% chance of a rate drop on October 17, markedly increasing from just 25% earlier in the week.
Economists and financial institutions have adjusted their forecasts accordingly, anticipating rate reductions in both October and December, with possible further decreases early in 2025.

Such movements will impact mortgage rates significantly.
For potential homebuyers, the forecast suggests a potential dip in deposit rates to around 3% and liquidity funding rates to 3.15% by year-end.

So, what should an investor with long-term Btp in hand do now, especially with 10-year Italian bonds tumbling to 3.35% and 10-year German Bunds at 2.05%? Considering the robust bond rally recently, there may be merit in taking profits by partially selling (about 30%) those long-term holdings.
However, it’s vital to remain invested in 2040 and 2050 maturities, especially since market conditions are subject to change.

Ultimately, bonds like the Btp 4.50% 2053 and the Btp 4.45% 2043 could reach values of 110.50-111 by December.
Patience is key in navigating these unpredictable times.

Disclaimer

The information and opinions in this article are not intended to be the sole basis for investment decisions.
Readers retain full responsibility for their investment choices, considering their risk tolerance and time horizon.
The content provided is for informational purposes only and does not constitute an offer or solicitation for public savings.