Bond rally wanes, Euro pressured post-ECB hawkish shift

Markets

Markets started off choppy yesterday, suggesting the bond-inspired everything-rally is losing steam. A backloaded eco calendar is keeping investors at bay as well. US yields recouped 2.1-9.6 bps from the huge losses incurred last month. The front end underperformed. German yields lagged behind but finished off intraday lows nevertheless. Changes varied between -0.8 bps (10-y) and +1.3 bps (2-y) with a noticeable outperformance of the very long end (30-y -4.4 bps). Stocks ended virtually flat in Europe while losing some ground in the US (Nasdaq -0.84%). The trade-weighted dollar index extended its recent bottoming out by rising above 103.62 (23.6% recovery on the Oct-Nov decline). EUR/USD lost mirror support at 1.0883. The pair neared the next reference at 1.08 (38.2% retracement) fast but it never came to an actual test. EUR/USD closed at 1.0836. Sterling’s stellar run grinded to a halt at the EUR/GBP 0.8558 resistance. Technical trading lifted the pair to 0.8578 at the close. Asian markets copy Wall Street’s meagre performance yesterday by losing ground. South Korea underperforms (-1.8%). News flow concentrates around inflation in the country as well as the Tokyo reading in Japan (see below). The Reserve Bank of Australia kept rates steady with further hikes, if any, contingent on the data. The Aussie dollar underperforms global peers this morning. For Europe, we retain ECB’s Schnabel interview by Reuters published this morning. The influential hawk took further rate hikes off the table in a dovish shift compared to just one month ago. Three unexpectedly benign inflation readings in a row changed Schnabel’s mind. She noted last month’s “remarkable” drop in the core gauge. Schnabel also warned against guiding markets to far ahead given how inflation is surprising. Dropping forward guidance was fitting when prices surged well beyond expectations but that works both ways, she reasons. On finishing PEPP reinvestments earlier than currently communicated (2025), Schnabel called it not a big deal as purchasing volumes are low and markets anticipate it already. The euro erased tiny gains after headlines hit the wires while Bund future price action suggests a lower open for cash yields. Attention later today shifts to the US with the JOLTS report as well as the services ISM for November. Market’s mindset suggests there’s still a risk for an asymmetric response to a negative surprise. That said, there’s only little room left to add to current market pricing which already assumes a 66% chance for a March cut. US bond spillovers, if any, to Europe should limite the damage for the dollar against the euro, especially after Schnabel’s comments. EUR/USD 1.08 is the first reference, followed by 1.0733/56.

News and views

The Reserve bank of Australia kept its policy rate unchanged at 4.35%. The RBA raised the policy rate by 25 bps last month after 4 month pause as progress in bringing inflation to target was developing slower than forecast. The RBA now indicated that the new information it received since has been broadly in line with expectations. Monthly data suggested a further decline in goods inflation. The development of services inflation remains uncertain. Wage growth picked up in September, but the RBA doesn’t expect it to increase much further. Higher interest rate are working to establish a more sustainable balance between aggregate supply and demand as previous rate hikes continue to flow through the economy. This gives RBA the time to assess the impact of precious tightening in a data-dependent approach. RBA concludes that ‘whether further tightening of monetary policy is required to ensure that inflation returns to target in a reasonable timeframe will depend upon the data and the evolving assessment of risks’. The tone of the RBA assessment maybe was a bit less hawkish than the market expected. The 2-y yield (4.08%) dropped 5 bps. AUD/USD fell from the 0.6610 area to currently 0.6585.

November inflation in South Korea and Japan this morning were softer than expected. CPI in SK declined 0.6% M/M slowing the Y/Y measure from 3.8% to 3.3% (3.5% was expected). Core inflation cooled from 3.0%. The BoK last week raised its inflation forecast for this year (3.6%) and next year (2.6%), but today indicated that it expects inflation to continue to decelerate at a moderate pace, assuming oil prices won’t significantly rise. November CPI excluding fresh food (monitored by the BoJ) in the Tokyo region dropped from 2.7% to 2.3%. The measure ex. fresh food and energy slowed to 3.6% from 3.8. The Tokyo data are seen as a good pointer for the national data that will be published on December 22. The BoJ holds its final meeting of the year on December 19. Softer inflation probably will reinforce the BoJ’s assessment that in can proceed very gradually when considering policy normalization.

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