The ECB has provided a clear indication that additional stimulus will come in December. A further expansion of PEPP could result in the ECB purchasing most, if not all, of the EGB supply in 2021

Although the ECB left the monetary stance unchanged at their last Governing Council meeting, the press statement indicated that policy instruments will be recalibrated in line with new economic forecasts published in December – providing strong indication that fresh stimulus will be rolled out by year-end.

Source: Bloomberg, Macrobond and Variant Perception

Given the slowdown in the rate of PEPP purchases over the summer (in part reflecting seasonal effects), there is still more than half of the existing capacity remaining in the current expanded envelope. As such, adding further capacity to the PEPP facility could result in the ECB absorbing all of the EGB supply in 2021.

So far, the ECB has purchased €617bn through the PEPP facility, leaving €733bn for future purchases. We assume that the ECB expands the envelope in December by €500bn (a lower amount would not be material, while a higher amount would perhaps not be justified for now given the existing capacity) and extends the purchasing window by six months to end-2021.

Source: Bloomberg, Macrobond and Variant Perception

Providing reliable estimates on future issuance is particularly difficult at this juncture given the heightened uncertainty around the recovery paths. Nonetheless, we can provide some ballpark figures for the euro area. Eurozone governments have issued around €1.1trn of bonds YTD (including syndications).

Source: Bloomberg, Macrobond and Variant Perception

Even assuming a similar volume of issuance in 2021, this would fall in the ECB’s expanded PEPP envelope under our assumptions (at the current run rate, there would be €750bn in PEPP holdings by December, with a €500bn envelope expansion taking remaining capacity to ~ €1.1trn). However, the bulk of the financing needs for Covid-led lockdowns have been made this year, with next year’s issuance likely to be lower.

The ECB has had to repeatedly fend off recent criticism from some quarters that it is engaged in monetary financing. This argument will become more difficult to make if the ECB finds itself buying up all of the EGB supply that comes to market. The ECB would also find itself driving intra-regional spreads lower and impeding price discovery, compressing volatility.

Source: Bloomberg, Macrobond and Variant Perception