The Markets
Yesterday’s slightly disappointing ADP employment report from the US had a major impact on the long end of the yield curve. Maturities from 10 to 30 years lost between 6.1 and 8.9 bps. The 10y tenor fell below support at 4.13% (50% retracement of the 2023 advance), but held above the next reference at 4.09% shortly thereafter. Declines in the 5-7y bucket were 3.1 and 5 bps, while the front even managed to eke out a marginal gain of 1.6 bps.
This could mean that the current pricing of Fed rate cuts (66% probability of a start in March with a cumulative 125 bps by the end of 2024) has gone far enough. We don’t want to draw that conclusion just yet, as the official payrolls report is still due on Friday. German yields followed their US counterparts in a similar curve shift. Movements ranged from +1bp at the front end to -7.5bp at the long end.
Gilts outperformed. As bets for a quick and sharp Fed/ECB pivot increase, markets are finding it increasingly difficult to assume that the Bank of England will buck the trend. Money markets are currently pricing in a first full rate cut in June versus August, with a 60% chance of a May move last week. This morning, we immediately turn to Asian trading to dive into the Japanese bond market. JGB’s are hugely underperforming, with extensions to US Treasuries following a triple whammy.
Japanese yields are up 6.2 (2 yr) to 12.6 (10 yr) bps. It started yesterday with BoJ Deputy Governor Himino outlining the various scenarios in the event that the era of negative rates were to come to an end. He suggested that the first rate hike since 2007 wouldn’t be as damaging as some fear. Governor Ueda, in an appearance before the Diet this morning, outlined several options for what the policy rate should be after the sub-zero experiment ends.
The mere mention of a hike fuels market speculation that it will happen, turning the December meeting into a live one. The third blow was directly related to bets for a BoJ policy twist, with a 30-year bond auction completely flopping. Bid-to-cover fell to the lowest level since 2015, with the tail the largest on record. The Japanese yen is outperforming this morning, pushing USD/JPY to its lowest level since early September (146.32).
EUR/JPY extends its losing streak to nine days, with the pair currently trading at 157.45. Movements in other currency pairs are muted. EUR/USD is trading steady after a late hit yesterday pushed the pair below 1.08 towards 1.076. The Pound lost momentum. EUR/GBP bounced off support at 0.8557 and closed at 0.857. Today’s uninspiring economic calendar paves the way for technical trading ahead of tomorrow’s payrolls as the final input for next week’s Fed meeting.
News and Views
The National Bank of Poland (NBP) yesterday left its key interest rate unchanged at 5.75%, as expected. Economic activity remains low, although it rebounded in Q3. The labor market remains strong, but employment growth is slowing. Inflation slowed to 6.5% in November, which the NBP attributed mainly to a decline in core inflation. Explaining the decision, the NBP said that “the adjustment in NBP interest rates introduced in previous months, together with uncertainty about the future course of fiscal and regulatory policies and their impact on inflation, led the Council to decide to keep NBP interest rates unchanged.
As the political situation (the formation of a new government is in the early stages) seems to be an important factor for the NBP, the policy rate could remain stable until early 2024. The prospect of a cautious easing cycle and a new pro-EU government is keeping the zloty near its strongest levels since the Corona crisis (currently EUR/PLN 4.32). NBP Governor Glapinski will hold a press conference this afternoon.
The Bank of Canada also left its key interest rate unchanged at 5.0% yesterday. The BoC indicated that it remains concerned about risks to the inflation outlook and that it stands ready to raise the policy rate further if necessary. However, in its assessment of the economy, the BoC acknowledged that higher interest rates are clearly having a dampening effect on spending, while the labor market continues to tighten as job creation has been slower than labor force growth.
The BoC believes that the economy is no longer in excess demand this quarter. Inflation eased to 3.1% y/y in October. As with most other developed central banks, including the US, markets are “sure” that the BoC has ended its hiking cycle and even see a >50% chance that the BoC will begin its easing cycle in March next year. The BoC decision had no noticeable impact on the Canadian Dollar. USD/CAD followed the broader USD rebound and closed at 1.36. From a broader perspective, the Loonie is holding up quite well considering the drop in oil prices.
