The bond bears continue to have the upper hand at the moment getting fuel from high inflation and hawkish central banks. German 10-year yields continued the march higher reaching 0.95% Friday coming from -0.4% just four months ago. ECB Vice President Luis de Guindos said yesterday that the ECB might have to move early in Q3 putting a July hike increasingly in play. But ECB also highlights that it will be depending on data. In the short term inflation is likely to move higher in April putting pressure on the ECB to act. On the other hand, we also expect activity data to fall sharply in coming months pointing in the direction of a more cautious approach. Our forecast is two hikes coming in September and December.
US bond markets have also seen a fierce sell-off and especially mortgage bonds have moved significantly higher in yields. 30-year mortgage bonds now yield around 5.25%, a rise of 200bp in six months. It is the sharpest increase in more than three decades and is likely to put a break on US home sales and house price increases. Hawkish comments by the Fed also continue to push up yields. Fed chairman Jerome Powell on Thursday indicated a 50bp hike is likely in May and on the table for the following meetings as well. This is in line with our forecast of 50bp hikes in both May, June and July. The Fed’s blackout period ahead of their meeting on 4 May starts on Saturday.
On the growth front this week Flash PMI’s in the euro zone were mixed. French PMI held up well whereas German PMI manufacturing new orders dropped sharply from 54.7 to 47.8. Service PMI was fairly robust suggesting that this sector may see some tailwind from consumers spending more on restaurants, travelling etc. US home sales declined for the second month in a row and Philadelphia Fed future activity index dropped to a 10-year low. However, US jobless claims continue to point to a robust labour market. China continues to struggle with the Covid-19 outbreak in Shanghai, which is set to keep weighing on activity in April with negative spill-over to the rest of the world. It also delays ships coming out of Shanghai causing more challenges for supply chains. We have seen freight rates come down in recent months, though, pointing to some improvement.
Looking ahead, the presidential election run-off in France on Sunday will be an important event for European markets. Polls still favour Macron, but it is going to be a tight race with left-wing voters as the kingmakers. A Le Pen win would trigger a negative market reaction in our view, but even if Macron is re-elected, France is facing increasing headwinds, both from the economy and political fragmentation. We also have euro area inflation figures for April and Q1 22 GDP figures on Friday. Both manufacturing and services activity picked up at the start of the year, before the Ukraine war hit, so we still look for a positive Q1 quarterly growth rate (0.3% q/q). Inflation risks remain skewed to the upside despite the latest stabilization in oil, gas and electricity prices. We look for a further climb in the headline HICP rate above 8%, with core inflation remaining elevated at 3.1%, keeping the pressure high on ECB to proceed with its policy normalisation. In China the development in the Shanghai Covid outbreak will be important for the near-term outlook. In the US we will get GDP for Q1, durable goods orders, consumer confidence and new home sales, which will provide input to how economic activity and sentiment is evolving. We will listen closely to how the Bank of Japan addresses the global pressure for higher yields next week. So far they have defended their yield curve control fiercely.
