One month into the European Central Bank's massive bond-buying program, fixed income hedge fund managers are trying to get their heads round how to trade it.
At first glance, the answer is simple: buy the bonds that the ECB is buying as part of its more-than-EUR1 trillion package.
In reality, however, the trade may be more complicated.
For starters, the stimulus program, which got underway on March 9, had been widely expected prior to its announcement in January, meaning some gains were quickly arbitraged away.
And as traders who bet on the U.S.'s stimulus packages in recent years have learned, yields can often rise, not fall, during periods of quantitative easing.
"On one hand, our guts tell us that its impact can only be profound and long-lasting, but on the other hand, we have to reckon that we are entering unchartered territory," said Paris-based hedge fund firm Eiffel Investment Group in a recent letter to investors about QE, reviewed by the Wall Street Journal.
One potential area of opportunity is the imbalance between the ECB's voracious appetite for bonds and the relatively limited new issuance from some countries.
"We did a lot of analysis on the QE program," said Louis Gargour, founder of London-based hedge-fund firm LNG Capital LLP. "The biggest mismatch between supply and the demand (QE) will create is in Germany, Portugal, Italy and France in that order."
Mr. Gargour bought long-dated debt such as 30-year bonds in those countries earlier this year and said he plans to hold onto such debt, pointing to Portuguese 30-year bonds, whose yields have fallen from 3.5% in February to 2.5% currently. "Next time we have this conversation Portugal will be at 1.8%," he said.
Other hedge funds have also bought longer-dated German bonds, in some cases hedging this with a bet that shorter-dated bonds will fall in price, said Tim Schuler, investment strategist at Permal Group, which oversees $22 billion in assets and which invests in hedge funds.
However, some managers feel the market still hasn't comprehended the size of the stimulus.
"The market is underestimating the amount of cash that is coming to the European market," said Gennaro Pucci, found of London-based PVE Capital LLP. He estimates the impact on the European market will be "at least three times larger" than the impact of the Federal Reserve's bond buying in the U.S..
PVE's Credit Value fund is up more than 11% so far this year, compared with a 12% gain it made for the whole of 2014, helped by the ECB's quantitative easing. The fund, which can bet on both rising and falling prices, is currently only betting on rising prices.
Another possible area to trade is corporate bonds, with managers expecting hundreds of millions of dollars to spill over into the sector. However, so far investment grade spreads over bunds have risen, not fallen.
Mr. Pucci estimates that EUR200-EUR300 billion a year will go into the corporate bond market as a result of QE. "In the credit market there is a considerable amount of money to be made," he said. He has been buying the bonds of "national champions" such as EDF and Deutsche Telecom.
"It is hard not to argue that the ECB QE program offers a highly favorable backdrop to credit investing in Europe for the many quarters to come," said Eiffel in its note. It said B and CCC-rated corporates, along with bank hybrid debt, could be "the asset class to benefit most."
LNG's Mr. Gargour pointed to single B-rated bonds that have been "moving fast". His fund has bought bonds of restaurant chain Wagamama, gaming group Gala and regional newspaper publisher Johnston Press.
But some hedge fund managers said the effect of the ECB's measures was too hard to judge.
Pedro de Noronha, managing partner at London-based Noster Capital, said he was "just watching how all this unravels." He added: "Crazy times... Crazy measures."
(END) Dow Jones Newswires
April 10, 2015 06:18 ET (10:18 GMT)
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