Markets
January inflation figures from European sovereigns published earlier this week culminated in the European-wide reading today. Bear in mind that Germany’s official CPI print for technical reasons isn’t due until next week. Eurostat instead resorted to an estimate. Price growth eased more than expected, from 9.2% to 8.5%, thanks to falling energy prices. Core inflation, which strips out energy, food, alcohol and tobacco, stabilized at 5.2%, defying expectations for a minor drop to 5.1%. Services inflation (4.2%) hovered close to the 4.4% record high. With the ECB having labeled core inflation as the needle in the compass, investors reacted accordingly. German yields turned losses of up to 4 bps in minor gains only to come off intraday highs again and trade flat on a net daily basis following the US ADP job report release. Employment grew by 106k in January, undershooting the 180k consensus even taking into account the 18k upward revision to the December figure (253k). Leisure and hospitality together with financial services delivered 125k jobs in the services sector, partially offset by a 41k decline in transportation & trade. In the goods sector, jobs lost in construction (-24k) outweighed those created in manufacturing (+23k). US yields marginally extended a decline with changes currently ranging between -2.3 bps (2y) to -3.8 bps (10y, 30y). A pinch of euro strength with dollar weakness lifts EUR/USD to the 1.09 big figure. DXY (101.76) hovers near recent lows, thus experiencing a make or break moment with key support looming at 101.297 going into the Fed meeting tonight. Currencies in the G10 space outperforming peers today include the Japanese yen (USD/JPY 129.41), the Aussie dollar (AUD/USD 0.709) and the Swedish krone (trying to recover from yesterdays beating at EUR/SEK 11.34).
The Fed is expected to downshift its tightening pace from 50 bps to 25 bps, bringing the policy rate at 4.5%-4.75%. Several governors argued in favour of doing so, though some stuck to the view to get to a peak level (5-5.25% as per December dots) as fast as possible, allowing for a pause afterwards. This would suggest a 50 bps hike tonight followed by a (conditional) last one in March when new forecasts and dot plot are available. It would probably need to show in the policy statement which for months now says that “the Committee anticipates that ongoing increases in the target range will be appropriate in order to attain a stance of monetary policy that is sufficiently restrictive to return inflation to 2% over time”. Only dropping this reference while simultaneously delivering a 25 bps hike could trigger a (bond) rally at the front end of the curve. We don’t believe in that outcome as too many (conflicting) factors remain at play: lower (headline) inflation vs tight labour market & wage pressure, weaker growth dynamics vs looser financial conditions,… . In all other scenarios, we expect the US yield curve to invert further via an underperformance of the front end. This should help the dollar above recent support levels while weighing on risk sentiment as well as the other two scenario’s (50-25-pause) or (25-25-25-pause?) are not discounted in US money markets (peak rate 4.75-5%). Apart from how to get to the peak, we expect Powell to talk markets out of the idea of rate cuts in the second half of the year.
News & Views
The S&P global manufacturing PMI’s for Poland (47.5 from 45.6) and the Czech Republic (44.6 from 42.6) remained firmly in sub 50 contraction territory in January. Output and new orders continue to decline at rather strong rates as both weak domestic and external demand weigh on activity. The employment subseries also indicated further job losses. Output prices continue to rise. At the same time, expectations for activity further out this year improve, supporting a gradual bottoming out in the headline indices that is developing since autumn. The Hungarian PMI as published by the Association of Logistics, Purchasing and Inventory Management shows a different picture, easing from 59.3 in December to 55 in November, with but both production and orders reported to have stayed above 50.
Annual house prices growth in the UK in January slowed further to 1.1% Y/Y down from 2.8% in December, according to the House price index from that Nationwide Building Society. Price declined 0.6% M/M. Nationwide sees ‘some encouraging signs […] but it is too early to tell whether activity in the housing market has started to recover’. The rising cost of servicing mortgages has deteriorated housing affordability over the past year. Nationwide also assumes that ‘It will be hard for the market to regain much momentum in the near term as economic headwinds are set to remain strong’.
