- European stock markets lose more than 1% today in a rising yield environment amid signs that global central banks are shifting gradually away from ultra-easy monetary policies. US stock markets open around 0.5% weaker with Nasdaq underperforming.
- A trio of Bank of England officials broke ranks with their colleagues in June to push for an immediate increase in interest rates, one of several signals that the UK central bank has moved a step closer to withdrawing the emergency stimulus it put in place after last year’s Brexit referendum.
- US eco data printed mixed. June Empire manufacturing (19.8 from -1) and Philly Fed Business Outlook (27.6 from 38.8) both beat consensus. Weekly jobless claims printed at 237k, near historical lows and also better than forecast. May industrial production (0% M/M) and prices indices (import & export prices unexpectedly declined M/M) disappointed.
- UK retail sales plunged in May for the second time in three months as rising inflation ate into the purchasing power of consumers. The volume of goods sold in stores and online fell 1.2% from April, more than the 0.8% decline forecast. Sales excluding auto fuel dropped 1.6%, the most this year.
- US president Donald Trump claimed he was the victim of a witch hunt led by "bad and conflicted people" after it emerged that special prosecutor Robert Mueller was investigating him for possible obstruction of justice in the FBI’s Russia probe.
- The SNB said that reducing its huge balance sheet was not on the agenda as political and economic risks had not yet eased sufficiently for it to move away from its ultra-loose monetary policy. The dovish tone signalled the SNB was nowhere close to tightening its policy as it tries to keep a lid on the strong CHF which weighs on the economy.
- Czech PM Sobotka stepped down as leader of the Social Democrats and the party shook up key personnel in a last-moment effort to close the popularity gap with its main rival four months before elections.
- Greece’s international lenders prepared to unblock as much as €8.5 billion in loans that Athens desperately needs next month to pay its bills, and to give some idea on what debt relief they may offer over the long term.
- Italy’s government won a parliamentary confidence vote on a mini-budget, agreeing to €3.4 billion of deficit-cutting measures to placate the European Commission. The package includes an increase in levies on tobacco and gambling, a renewed crackdown on tax evasion and efforts to boost the tax take from Internet companies.
Rates
Bund correct sharply lower
Core bonds are on the defensive today, losing substantial ground after US data induced gains on Wednesday. The German yield curve bear flattens with yields up between 3.5 bps (30-yr) and 7 bps (5-yr). The bear flattening suggests that the ECB’s exit policy remains in focus with several ECB hawks yesterday questioning the necessity to keep the APP unchanged for much longer. The US curve shifts higher too, but yields are up a more moderate 2.7 to 3.1 bps (30-year yield +1.6 bp). UK gilt yields rise up to 10.4 bps (5-yr).
German bonds underperform US Treasuries, but gilts fare the worst after the BoE showed a 5-to-3 split in keeping rates unchanged. This brings UK rate hike expectations forward. However, the Bund had already lost ground when nose-diving gilts drew Bunds lower. Initial Bund selling may have been profit-taking after yesterday’s stellar performance. The Bund rally might have been exhausted as the contract-highs came into sight. The US eco data, jobless claims, NY Fed and Philly Fed business surveys were strong and mostly better than expected, even as production disappointed. This contrasts with yesterday’s eco data. The relationships between markets was distorted. While bonds went down, so did equities and the Bund underperformance on the US Treasuries didn’t prevent dollar gains versus the euro. Oil stabilized after a big fall yesterday. US Treasuries decline started in earnest when US trading got going. Some reconsidering of the nature of the FOMC meeting might have played a role too. The meeting was more hawkish than first considered by the markets, we think.
Currencies
USD extends post-Fed short squeeze
Investors did some more USD short-covering as the Fed intends to extend policy normalisation. EUR/USD dropped further to the 1.1150 area, even as interest rate differentials narrowed against the dollar. USD/JPY also rebound despite a correction in equities.
There were no important eco data in Europe. The post Fed repositioning dominated FX trading. The dollar rebounded as the Fed signalled that it will continue its policy normalisation even as recent data, especially inflation, were no ‘grand cru’. Remarkably, the decline of EUR/USD occurred as interest rate differentials between the US and Germany narrow. Something similar occurred in USD/JPY. USD/JPY extended its rebound even as global equities suffered substantial losses. FX markets were positioned too short USD going into yesterday’s Fed meeting. These USD shorts still had to be reduced, whatever the developments in other markets. EUR/USD traded in the 1.1165 area around noon. USD/JPY changed hands in the 109.80.
The US, early morning US activity data were mostly stronger than expected. Production data (flat on the month) was also softer than expected. The dollar tried to extend its rebound/short-squeeze after the data, but the move had no strong legs anymore. EUR/USD settled in the mid 1.11 area. So, the test of the 1.13 resistance area is rejected. USD/JPY also remains remarkably solid even as US equities deepen yesterday’s losses. The pair trades in the 110.40 area. Despite today’s constructive USD/JPY price action, the technical picture on USD/JPY hasn’t improved yet. A first minor resistance comes in at 110.81. Especially as equities continue correcting lower, a sustained break higher isn’t evident. USD/JPY traders also keep an eye at tomorrow’s BOJ policy decision.
BoE dissenters propel sterling
UK retail sales (-1.2% M/M,-1.6% M/M excl. fuel) declined more than expected as price rises due to the weak pound are eroding consumers’ purchasing power. Markets (including us) assumed that the BoE would keep a cautious monetary policy approach, giving more weight to easing consumption, slowing wage growth and uncertainty on rather than on higher inflation (2.9% reported for May earlier this week). The BoE as expected left its policy rate (0.25%) unchanged. However, only five members voted to keep rates unchanged. Three members unexpectedly voted in favour of a rate hike as the BOE expects inflation to move beyond 3% in Autumn and as inflation is expected to stay above target for a prolonged period of time. Sterling hardly reacted to the weak retail sales, but jumped higher on the 5-3 vote. EUR/GBP dropped from just below 0.88 to the 0.8725 area (currently 0.8750). Cable jumped from 1.27 to the just below 1.28, but eased again later (currently 1.2775). The substantial support for a rate hike was a surprise, but we maintain the view that the BoE will remain very cautious to raise rates as political and economic uncertainty remains elevated.
