Bonds: Traders whipsawed by weak JGB auction and US factory ISM

These were the movements in some of the most widely-followed 10-year sovereign debt yields:

US: 1.65% (-1bp)

UK: 0.47% (-2bp)

Germany: -0.56% (+1bp)

France: -0.26% (+1bp)

Spain: 0.15% (+1bp)

Italy: 0.86% (+4bp)

Portugal: 0.18% (+2bp)

Greece: 1.36% (+1bp)

Japan: -0.15% (+6bp)

Bond traders were whipsawed on Tuesday by a failed Japanese government bond auction overnight that initially drove down prices followed by an unexpectedly weak reading on US manufacturing sector activity that saw markets price back in a December rate cut by the Federal Reserve.

The auction of 10-year Japanese government bonds drew a bid-to-cover ratio of only 3.42 - the lowest since 2016 - with some market participants wary of buying at current levels given the prospect for lower demand from the official sector going forward.

During the previous session, the Bank of Japan reduced the purchase ranges for four maturities and hinted that it might stop purchasing debt maturing in 25 years or more, and possibly skip some buying operations.

In parallel, the Japanese Government Pension Investment Fund announced a shift towards buying more foreign bonds.

The news from Tokyo drove yields on 10-year Gilts eight basis points higher to reach an intraday high of 0.57% alongside a move in US Treasury yields at the same tenor to 1.75%.

But a surprise drop late in the session in the ISM institute's factory sector Purchasing Managers' Index, from a reading of 49.1 for the month of August to 47.8 in September (consensus: 50.1), saw 10-year notes on both sides of the Pond retrace their entire drop, in turn weighing on their yields.

Bond yields move on the inverse direction of their prices.

"This [ISM] survey is a not consistent with recession across the whole economy. But the warning signs here are clear enough," said Ian Shepherdson, chief economist at Pantheon Macroeconomics.

Factory PMIs for the euro area and the UK released earlier by IHS Markit on the other hand printed ahead of forecasts, but economists were downbeat on the outlook.

In the case of the Eurozone PMI, IHS Markit chief business economist, Chris Williamson, said: "Adding to the gloom, jobs are now being cut at the fastest rate since early 2013, which is not only a sign of manufacturers bracing themselves for more trouble ahead, but also adds to the risk that a deteriorating labour market will hit households and the service sector."

On a downbeat note as well, analysts at Rabobank chipped in: "At the heart of the slowdown is a downturn in global manufacturing that’s already visible in Asia, spilling over into Europe and eventually set to hit the United States. The trade war isn’t the primary cause per se, but it certainly isn’t helping, nor is it going away. We forecast a US recession in 2020H2, with the timing based on a yield curve inversion model that’s been a strong indicator in the past.

"The global downturn is still a relatively modest affair in our spreadsheets and models, but the key risk is for a financial crisis to team up and blow it out of the water."