The Markets
ECB Lagarde spoke at a German Finance Ministry event just before yesterday’s European close. While her quote that the ECB is “not done” in its fight against inflation grabbed most of the headlines, markets focused on – and reacted to – other comments. Most notably, that the central bank has moved into what President Lagarde would characterize as a “vigilant and focused” phase of the cycle, allowing some time to see how quickly disinflationary forces take hold.
Markets are interpreting the ECB’s first pause since the rate hike cycle began in July 2022 as final, and are betting on rate cuts as early as Q2 2024 in a Goldilocks soft-landing scenario where central banks can eventually shift their focus back from fighting inflation to supporting growth. Anything short of support for further imminent rate hikes is currently interpreted as lower (policy) rates being the next step. German yields closed as much as 5bps lower on the 5yr yesterday.
The single currency took a hit, with EUR/USD closing at 1.0911 from 1.0940 after a failed test of 1.0960 resistance (62% retracement of the mid-July to early October decline). EUR/GBP copied EUR/USD’s move south, with the pair closing just above 0.8750 from 0.8750. However, Lagarde warned about the path of the two main forces pushing down inflation today.
The impact of the unwinding of the energy and supply shocks – responsible for two-thirds of the inflation spike – is fading, while there is some uncertainty about the strength of the impact of the current restrictive monetary policy on growth. As a result, headline inflation is likely to pick up somewhat in the coming months, mainly due to base effects (the aforementioned energy, but also the unwinding of fiscal stimulus). The minutes of the Fed‘s meeting at the beginning of November showed broad agreement on the decisions taken.
The US central bank must proceed cautiously and monitor the data in the coming months. The release didn’t trigger a market reaction. Daily changes in the US yield curve were between -2.3 bps and -4 bps yesterday. The rally in European and US equity markets ended with a small loss (-0.5%). Consensus beating earnings from Nvidia and the Gaza hostage/prisoner swap deal did little to improve risk sentiment this morning.
The economic calendar is thin today with only weekly jobless claims and durable goods orders. We don’t expect any major moves ahead of the US long weekend (Thanksgiving), suggesting that recent corrective tops (bonds/stocks) and bottoms (dollar) remain out of reach.
News and Views
The Hungarian central bank cut its key interest rate by 75 bps to 11.5% yesterday. A close advisor to the rate-setting committee last week, followed by Deputy Governor Virag a day later, strongly hinted at the move. This dispelled speculation that the MNB would accelerate the pace of cuts after disinflation was stronger than markets expected.
CPI came in at 9.9% in October, while core inflation rose by 10.9%, both in the lower half of the range provided in the MNB’s September report. The three-month annualized change in core inflation fell below 3%, down from 4% in September. Inflation is expected to decline further to 2.5-3.5% in 2025. The MNB added that a positive real interest rate supports this process, indicating a preference to keep it that way while further normalizing the tight monetary policy stance.
Growth forecasts were left unchanged from September, with GDP expected to expand at a rate of 3-4% in 2024 and 2025. This year’s economic growth is expected to be in the lower half of the September range of -0.5-0.5%. The Hungarian forint lost ground, but was no exception in the region. With a close of EUR/HUF 381.05, the currency is trading near recent highs, though below the yearly highs of 370.
The Bank of Japan may be on record as not wanting to exit its ultra-loose policy stance, but its actions are increasingly suggesting otherwise. Data through November 21 shows that the central bank hasn’t bought any real estate investment trusts (J-REITs) this year. Moreover, it has only bought ETFs three times so far in 2023.
The BoJ has been accumulating these risk assets on a large scale since 2010 to complement its easing stance. Both are now growing robustly on their own, providing a perfect opportunity for the central bank to step back. In its updated quarterly plan, the BoJ also reduced the minimum amounts of bonds it will buy across all maturities. The biggest cuts are in the 5-10 year bucket and maturities over 25 years.
This follows actual purchases in the previous quarter, which were already below the pre-announced minimums. This triggered a corresponding curve underperformance. Japanese yields are up 3-6bps in the 10-30y bucket this morning.
