Sunset Market Commentary

Markets

Same market narratives continue dominating trading. In random order, we start with the prolonged energy price shock. Brent crude moved beyond $110/b to its highest level since May. European gas prices (Dutch TTF) exceed €90/MWh for the first time since the end of 2022. It remains somewhat at odds with money markets erring on the side of skipping rate hikes at the upcoming October meetings and turning slightly less aggressive further out as well. Zooming in on the ECB, its baseline forecasts assumed average oil and gas prices of respectively $86/b and €60/MWh in Q4 2026. Current quarter-to-date averages even slightly exceed the central bank’s adverse scenario assumptions: $105/b vs $99/b and €82/MWh vs €77/MWh. The ECB’s 2027 base scenario counts a lot on energy disinflation to bring average headline CPI down from 3% this year to 2.5% while lack of second-round effects avoids a strong pick-up in core CPI (avg of 2.6% in base from 2.5% in 2026). In the adverse scenario which energy markets currently follow, HICP remains elevated at 3.2% in 2027 with core inflation peaking at 2.8% as indirect and second-round effects across prices and wages unfold. In 2028, headline and core CPI would still be significantly above the ECB’s 2% price target (2.3% and 2.4% respectively). All else equal, this suggests that the ECB at one stage might/will have to step up the current gradual, quarterly, tightening pace. Part of the money market complacency probably comes from another dominating market narrative: widening EMU sovereign credit spreads. The French OAT swap spread currently adds 8 bps, making it 19 bps since last Friday’s close. At 145, the 10-yr OAT-swap spread trades at its highest level on record. Belgium and Italy are close seconds today, with swapspreads up 6 bps. The Belgian 10-yr OLO-swapspread rises to 86 bps (from 73 bps last Friday) which is the highest level since 2012. From a market perspective, weakening sovereign credit risks influencing bank lending via the feared sovereign-financial doom loop where the balance sheet impact from sovereign exposure translates into tighter lending conditions. Next Tuesday’s quarterly banking lending survey from the ECB will be closely watched in this respect. The final factor which asks for close monitoring in the ongoing risk correction with key European and US indices today ceding 0.5% to 1%. One notable side-effect is the return of safe-haven flows towards core bonds with curves bull flattening. In FX space, the single currency manages to defy the laws of gravity, holding north of 1.12 against the dollar. The story is different against an outperforming sterling, which pulls EUR/GBP below 0.84 in the wake of stronger labour market figures.

News & Views

Hungarian PM Magyar said the government plans to return the budget deficit to below 3% by 2030, speaking a day after presenting his 2027 budget. The 2027 shortfall is expected to decrease to 4.9% from 7.5% this year. A breakdown by the Finance Ministry showed 1.5 ppts of the cumulative 2.6 ppt effort is found by “cutting waste”, another 0.9 ppt via “fairer distribution of fiscal burdens” and 0.2 ppt through lower financing costs. Those ought to offset the impact of higher energy prices and increased social spending. Magyar aims to further reduce the deficit to 4% in 2028 and 3.4% in 2029, before complying to one of the key Maastricht criteria for euro adoption in 2030 (2.8%). Another is to have a debt ratio of no more than 60% of GDP or have it put on a credible, declining path. Finance minister Karman has said they are aiming to lower the ratio by 0.3 ppts by end-2027 to 77.2%. Neither Magyar nor Karman in their comments explicitly committed to a target date in adopting the common currency, with the PM only saying “the sooner the better”.

The Polish monetary policymaker Zarzecki outlined different paths in central bank policy. He singled out three variables and has set a target for each of them: core inflation rising above 3.5% and remaining above that level for two straight months, wage growth accelerating to 7%+ and the zloty tumbling to levels above EUR/PLN 4.5. If two of these conditions are met, Zarzecki said the central bank should seriously consider a one-time hike of 25 bps. Three conditions fulfilled could potentially support a series of rate hikes or a single bigger-sized one. To date, none of them are met: core CPI stood at 3.1% in September (from 3.3% in August), wage growth last month as per data today picked up to 5.9% from 5.6% and the zloty trades around EUR/PLN 4.37 with a recent low set at 4.4. Zarzecki added he doesn’t expect a hike in November, but wouldn’t want to rule it out either. His views match those of governor Glapinski, he added.