Markets
Few data on the eco calendar and investors counting down to multiple upcoming central bank meetings was expected to cause cautious trading. European investors initially held to that script and regional equity indices even regained some ground. US investors were less confident. Headlines from across the world that the omicron variant is spreading fast and might need additional measures pushed equities into negative territory. It’s difficult for investors to reconcile omicron-related uncertainty with the Fed and other central banks accelerating efforts to arrest inflation. European indices closed about 0.25%/0.75% lower. US indices underperformed with the Nasdaq losing 1.39%. The risk-off again fueled the well-known flatting trends that already dominated trading for a while. US yields declined between -2.2 bps (2-y) and 7.8 bps (30-y) with the move solely due to lower inflation expectations. German yields also eased 0.1 bp (2-y) to 4.2 bps (30-y). At the -0.38% and 0.08% for the 10-y Bund and for the 10-y swap respectively, the technical picture again looks fragile. Despite the risk-off, intra-EMU spreads narrowed (slightly) further. Investors apparently are confident that bonds of these countries will continue to receive backing from ‘some kind of flexible’ post-PEPP regime. The dollar outperformed on risk-off but the intraday trajectory was a bit bumpy. The DXY index closed near 96.30 (from 96.10). EUR/USD dropped below 1.13, but with a close at 1.1284, damage could have been bigger. The yen didn’t really capitalize on its safe-haven status (close USD/JPY 113.54).
Asian equities join the risk-off repositioning in the US with Hong Kong underperforming, but losses are less than 1.0%. The dollar maintains gains, but with no further upward momentum (DXY 96.97, EUR/USD 1.1280). USD/CNY is holding near 6.3625. For now, the PBOC isn’t pushing for a further turnaround in the CNY strength.
There are no important data in EMU today. US NFIB small business confidence and November PPI are interesting but won’t change markets expectations for the outcome of the 2-day Fed policy meeting that will start later today. On interest rate markets, key question is how far the flattening trend will/can go. The Fed (in language and in dots) signaling a refocus on inflation and at the same time persistent uncertainty on the economic impact of omicron, suggests a real reversal in this trend isn’t around the corner. A flatter US yields curve, with relatively high short-term yields remains favorable for the dollar, especially as long as the ECB continues dragging its feet on inflation. EUR/USD 1.1186 and DXY 96.64/94 are next key levels on the charts. At the moment of writing, UK labour market data are reported solid with jobless claims declining further and employment growth holding strong, albeit slightly slower than expected. In November, the BoE earmarked progress in the labour market as key to start hiking but omicron also complicated this scenario. EUR/GBP is hovering up and down in a short-term 0.85/0.86 corridor.
News headlines
The Bank of England is reintroducing the countercyclical capital buffer for its biggest lenders. After cutting it to zero in March 2020 to support credit flows to the economy, the BoE would raise the buffer to 1% by December next year and to 2% in the second quarter of 2023, provided the economy continues to recover. The BoE said in its Financial Stability Report that “the decision reflects the fact that risks have returned to their pre-Covid level”, adding that major UK banks already have sufficient capital to meet the planned increase. The timing of the buffer’s reintroduction coincides with omicron sparking new uncertainty and the UK recording its first death just yesterday.
The Canadian government renewed the country’s central bank mandate for the next five years. The biggest official change from the 2016 version is that the BoC now formally has been given a license to moderately overshoot its 2% inflation target to support maximum sustainable employment. The mandate puts more emphasis on the use of the 1-3% control range in order to do so instead of exclusively aiming for the 2% over the BoC’s forecast horizon. In practice, however, it only formalizes what the central bank was implicitly already doing, the BoC and government later said. A major overhaul of the framework was studied but with inflation accelerating rapidly, benefits of doing so weakened. The Canadian dollar slipped yesterday (USD/CAD >1.28) but that was solely a risk-off result.
