Recession fears dominate

Market movers today

Today's key event in the Scandis is the Norges Bank meeting. Everything points to a further increase in interest rates, so the question is simply how aggressive Norges Bank will be, as most important data have surprised to the upside (higher oil prices, higher global interest rates, higher core inflation and weaker NOK). Our call is that Norges Bank will raise its policy rate by 25bp and open the door to a further hike in August but without referring to this as "most likely". We expect the policy rate path in the monetary policy report to signal about a 50/50 chance of a further three hikes this year after the June meeting, and slightly more than four more next year.

We receive preliminary PMIs for the euro area (including country-specific indices for Germany and France), the UK and the US during the day. Numbers are likely to show that growth is slowing but that price pressures remain high.

US initial jobless claims have climbed slightly higher since the end of March, although they remain at low levels. As labour demand remains extremely strong, we do not yet consider this a sign of US weakness. Also keep in mind that labour market indicators are usually lagging the business cycle, so it is probably not here we should look for recession signs initially.

Fed Chair Jerome Powell testifies before the House Financial Services Panel today. We do not expect this to be a market mover as such, not least since the two-day testimony started yesterday.   

The 60 second overview

Powell and recession fears: Fed Chairman Powell acknowledged yesterday testifying before the Senate Banking Committee, that there is a clear risk that the quick tightening of US monetary policy could tip the US economy into recession and that the narrative of a 'soft landing' will be 'very challenging'. Powell was quite outspoken that the Fed cannot fail the task of getting back to 2%. This is probably the most explicit warning from Powell that the current tightening cycle could end in tears. The market continues to price a high probability of a 75bp hike by the Fed July 27.

Bonds: The global bond market rallied strongly on the renewed recession fears, which pushed global yield curves lower. However, it was noteworthy that the curve 2s10s in UST actually bull-steepened a few bp despite the recession fears. The rally in 2Y UST yields reflects that the market is now pricing in more than 50bp of Fed rate cuts in 2023/24 after the expected close to 200bp tightening in H2 this year.    

Commodities: The fear of recession has weighed on oil this week and yesterday WTI dropped below USD 102 a barrel for the first time since early May with prices down close to 20 USD a barrel in just two weeks. WTO is trading marginally higher this morning at USD 103.4 a barrel. Brent is trading at USD 109 a barrel. The lower energy prices would be supportive for the global consumer ahead of 'driving season' on the Northern hemisphere, where demand for gasoline is at a seasonal peak. The price drop has probably arrived a bit too late to materially impact June inflation prints as June prices in most countries have been collected now by the various statistical offices. In respect of energy inflation note that European natural gas prices are up 60% since June 7th as Russia continues to restrict gas flows to the European continent through Nord Stream 1 pipeline by more than 50%. Growth sensitive copper also came under renewed pressure yesterday and is now trading at a 15 month low.

Equities: Global equities lower yesterday but both European and US markets ending above day lows. Despite the drop in equities, the implied vol measured by VIX ticked a bit lower yesterday. Interesting to see the shift from stagflation fear into more classic recession fear playing out yesterday. This risk of recession taking both oil and metals prices lower, leading to massive underperformance in energy and materials sector yesterday. As we argue the peak stagflation fear is behind us and recession fear has taken over, the energy and materials sectors will no longer act as a hedge. In case of recession, we argue both energy and materials will be among the worst performers. In US yesterday Dow -0.2%, S&P500 -0.1%, Nasdaq -0.2% and Russell 2000 -0.2%. Sentiment in Asia slightly positive this morning while European and US futures are lower.

FI: The increasing recession fear was the predominant theme yesterday with Bunds ending 13bp lower in a bullish flattener move. With ECB cap on fragmentation, BTPs seem to have found a bid with BTPs-Bund spread tightening 2bp yesterday up until the 10y point, however the longer end of the BTPs underperformed peers (and Buxl) somewhat. Powell's testimony was mainly a repetition of hikes communication last week, such as a decision meeting by meeting on rate hike size and will continue until they see compelling evidence that inflation is moving down.

FX: In Scandi markets, today's Norges Bank meeting will take centre stage and our base case is for a triple disappointment in terms of market pricing. For EUR/USD, markets will be more interested in how fast manufacturing PMIs are coming down than the mere fact they likely drop further from still-high levels.

Credit:  After a couple of positive days the European Credit markets turned slightly sour with iTraxx main widening 3bp to 110bp and Xover widening by 9bp to 547bp. 

Nordic macro

Today we expect Norges Bank to hike policy rates for the fourth time in this cycle by 25bp. We expect NB to stick to its 'gradual' strategy but also open the door to an August hike. We expect a forward guidance signal of close to a 50/50 split between August and September as the timing for the next 25bp hike but still with verbal guidance towards September. We expect the top point of the rate path to fall in the 2.50-2.75% range by end-2023 and that the subsequent inversion will prove steeper than in the March Monetary Policy Report leaving a close to unchanged end-point of around 2.3% in Q4 2025. The steeper inversion reflects a much worse employment-inflation trade-off than expected in the last monetary policy report. If this call proves right it would be a disappointment to markets and lead to lower short-end rates. Admittedly, the balance of risk to our call is skewed towards a more aggressive NB.