Markets
Over the previous week, ECB Chair Lagarde’s U-turn on the inflation assessment and strong US payrolls caused hefty turbulence on interest rate markets on both sides of the Atlantic. Yesterday’s US CPI release triggered nothing less than a real earthquake. US headline and core inflation respectively jumped to 7.5% and 6.0% Y/Y, the highest readings since 1982. Price rises were broad-based (services 4.6% Y/Y, housing 5.7% Y/Y, transportation 20.8% Y/Y) illustrating that the erosion of consumers spending power is going far beyond an energy driven rise (27 % Y/Y). The M/M dynamics (0.6%) also provides little evidence that a major improvement is around the corner. The data evidently was a major driver for the sharp rise in yields. However, the debate on the Fed reaction function is at least as interesting. Comments from Fed governors Barkin and Daly that a 50 bps hike is no done deal yet, are behind the (market) curve. St Louis Fed Chair Bullard set the debate on a different, more market oriented/ forward looking path. He agreed with market pricing of a 1% combined rate hikes by July 1, stating with 50 bps in March. He is even open to an inter-meeting increase. His comments were the straw that broke the camel’s/bond markets back. The 2-y US yields jumped 21.4 bps to close at 1.58%. The 10-y (+8.8 bps) settled well above the psychological level of 2.0% (2.03%). Markets currency almost fully price a 50 bps March increase and 1.75% of increases by the end of the year. The German yield curve rose between 1.8 bps (2-y) and 7.2 bps (10-y) but still has to incorporate Bullard’s comments. The dollar gained sharply immediately after the release but more than returned the gains as US equities showed resilience. EUR/USD even revisited the 1.1485/95 resistance. However, Bullard’s comment gave the USD a lifeline. EUR/USD closed at 1.1428. DXY also closed little changed at 95.55. US equities initially limited the damage, but closed the session with losses between 1.47% (Dow) and 2.1% (Nasdaq).
This morning, Asian markets are losing between 0.5% and 1.75% in the wake of yesterday’s sharp rise in US yields. (Japanese markets are closed). Today’s eco data (U Michigan consumer confidence & Q4 UK GDP) probably will only be of intraday significance. After yesterday’s CPI release and comments from Fed Bullard, markets will unlikely substantially backtrack on a March 50 bps hike. Short-term, the question is whether there will be additional backing for a pre-March intermediate hike. Fed comments fighting this idea might even put further pressure at longer maturities. The 2.0% level for the 10-y soon might become a support. Yesterday’s sharp repositioning again might provide the dollar some kind of short-term ‘policy divergence premium’. After a new rejected test of the high 1.14 area, further return action lower in the 1.13 big figure might be on the cards, but don’t expect a return to the 1.1121 correction low.
News Headlines
Appearing before the House of Representatives, RBA governor Lowe reiterated that a rate hike in 2022 was plausible but that he first wants to see a couple of (quarterly) CPI’s before deciding to. Wage developments will be crucial. Lowe said wage increases currently are no more than “two point something” percent, adding that they are now seeing a steady flow of foreign workers entering Australia. Money markets pulled forward the timing of a first rate hike regardless. They now expect the rate lift-off in June with a total of five hikes discounted. Spill-over effects from the US are at play as well. Australia’s yield curve flattens with yields 14 bps higher at the short end. AUD/USD loses out amid risk-off and a strong USD. The pair falls from 0.716 to 0.711.
The Mexican central bank (Banxico) raised its benchmark interest rate by 50 bps to 6%. The 4-1 decision came as no surprise. Ahead of the meeting, January (core) inflation came in at 7.1% (6.2%) vs. the central bank’s 3% target. The higher-than-expected figures prompted the central bank to lift its forecasts for this year and the next. Risks remain to the upside and Banxico is wary of the rising inflation expectations as a result of the greater and the longer than anticipated inflationary pressures. More (50 bps) rate hikes are likely. USD/MXN rose to 20.57 on dollar-strength.
