Sunset Market Commentary

Markets

EUR/GBP set a minor YTD low today at 0.8250. The move came as UK Gilts underperformed German Bunds. UK yields currently add 2.1 bps (2-yr) to 4.6 bps (30-yr) compared with German yields sliding by up to 3.9 bps at the front end of the curve. The euro remains in the defensive going into Thursday’s ECB meeting. While ECB President Lagarde won’t find common ground to step up the pace of rate cutting (25 bps to 50 bps), we do believe that the central bank’s third consecutive rate cut will be accompanied by some dovish hints. Think about dropping the reference to sticking with a restrictive monetary policy, downward revisions to GDP/CPI forecasts and a more formal return to forward looking decision making. The UK (and sterling) are in a different spot with Bank of England governor Bailey being forced into wait-and-see mode by Chancellor Reeves’ expansive 2025 budget as it triggered an upward revision in the expected CPI peak next year (+0.5 ppt) and delay in the expected return of inflation below the BoE’s 2% inflation target (2027 instead of 2026). The BoE meets a final time this year next Thursday (Dec 19). The monetary policy split and rising UK/EU (2y) yield differential suggest that EUR/GBP is heading for a test of the post-brexit low at 0.8203. A similar dynamic is at play in EUR/USD (1.0525). The pair failed to rebound beyond 1.06 after extensively testing the downside of the 2023-2024 trading range (1.0448) in the wake of US elections. The US treasury yield curve bear steepens today with yields rising by 1.4 bps (2-yr) to 3.1 bps (30-yr). Technical charts suggest – like in Europe – some tentative bottoming out at the longer end of the curve. Upcoming 10-yr and 30-yr Note/Bond auctions are at play as well. Today’s eco calendar was extremely thin with only a consensus-beating increase in November NFIB small business optimism (101.7 from 93.7 vs 95.3 expected). The three-year high in the index is more evidence of enthusiasm after Trump’s election win. Details moreover showed that a net 28% of businesses planned to raise prices over the next three months, the largest share since May. It adds to rising short term inflation (expectations) (eg yesterday’s NY Fed Survey or Friday’s Michigan consumer confidence) and effectively hampers the Fed’s normalization plans (as set out in September) next year. We think that there’s room to pause the rate cut cycle in January 2025 after a 25 bps rate cut at next week’s final Fed meeting of the year.

News & Views

The Bank of International Settlements in its quarterly report once again warned for the threat of soaring government debt. It singled out the US, where investors are facing a potentially toxic combination of debt oversupply and stimulus spending that could boost inflation. The BIS head of the monetary and economic department Borio said there were more reasons to be worried now than when it issued a similar warning earlier this year. The BIS report mentioned there was a supply-demand imbalance in the US Treasury market, with dealers holding record amounts of unsold US bonds on their books. Estimates by the Institute of International Finance suggest that global sovereign debt could rise by a third by 2028 (to $130tn) amid continued large government budget deficits. While the so-called bond vigilantes for now keep their powder dry, the BIS warned that policymakers should not wait for markets to wake up and start adjusting policies in time.

Norwegian inflation eased less than expected in November. The headline index fell from 2.6% to 2.4% on a 0.3% m/m pace. Housing, water & energy were among the main drivers, rising 1.1% m/m, followed by health (0.5% m/m) and clothing & footwear (0.5%). Transport and household equipment were among the biggest drags (both -0.4% m/m) even though both did support the y/y print. Core inflation broke a year-long easing streak with an acceleration from 2.7% to 3%. The numbers were higher than analysts expected but didn’t come as a surprise to the Norwegian central bank. The Norges Bank had penciled in 2.6% for headline and 3% for core. The central bank in November said it expects the current policy rate to remain unchanged at 4.5% through the end of the year. Markets have been aligning neatly with this guidance and do not see today’s numbers as a key reason to change tack ahead of the December 19 meeting. Stronger-than-expected Q3 GDP growth, low & stable unemployment and especially a still-weak Norwegian krone are key arguments for the Norges Bank to proceed cautiously with rate cuts. EUR/NOK trades little changed around 11.72. This compares to the recent highs (NOK lows) around 12, surpassed only during the pandemic-driven liquidity crunch in early 2020.