Yesterday morning, tentative signs of easing tensions on China caused a rebound of risk assets on European markets. However, the impact on core bonds markets was limited. German and US bonds initially lost a few ticks, but the damage was negligible. Later US yields in particular reversed the initial rise as US equities couldn’t sustain a positive open. The US yield curve bull flattened (2-y -2.4 bp) with the 10-y slightly outperforming (-4bp). The European yield curve also flattened. Yields on 2 & 5 year bunds rose marginally, but the (very) long end outperformed. The move was reinforced by market talk that the ECB could engineer some kind of ‘operation twist’ by reinvesting the proceeds of bonds maturing under APP in bonds with longer maturities. For example, the French 30-y yield drop to the lowest level since November 2016.
This morning, the yuan gains slightly further ground against the dollar. However, it is not enough to trigger a further risk rebound. Most Asian equity indices still show modest losses with China again underperforming. Uncertainty on possible further steps in the US-China trade war apparently still make investors staying on the sidelines. Today, US markets are closed for the 4th of July Holiday. The EMU eco calendar is thin with only the final release of the EMU services/composite PMI scheduled for release. Yesterday, European equities outperformed the US and Asia. We look out whether this trend continues. However, even if this would be the case, it is unlikely to change the constructive bond market sentiment in a profound way. We also look out whether the ‘aggressive’ flattening trend on EMU bonds markets continues.
Yesterday, the dollar corrected lower as Chinese authorities indicated that they could take action to slow the decline of the yuan. Chinese authorities also reiterated that China doesn’t intend to use the currency as a weapon in the trade ware with the US. The USD correction mostly occurred in Asia and Europe, but slowed later in the session. After all, the move was not that big and no important technical levels were broken. EUR/USD finished at 1.1658 (from 1.1639). The late-session correction on US equity markets also caused USD/JPY to reverse an early gain. The pair traded temporary north of 111 but closed at 100.59. With US markets closed, USD trading will probably develop in thin market conditions. Over the previous days, EUR/USD traded rather constructive. However, a fragile risk sentiment probably won’t make it easy for the pair to make a big progress. EUR/USD 1.1720 and 1.1851 remain the first relevant resistance levels.
Yesterday, sterling profited from ‘hawkish’ comments from BoE Saunders and from a decent UK construction PMI. EUR/GBP drifted further South in the 0.88 big figure (close at 0.8834). Today, UK services PMI is expected unchanged at 54.0. However, the market focus will probably turn to the key UK Cabinet meeting on Friday. At that meeting UK PM May will try to reach a government consensus on Brexit. We expect sterling to trade in a wait-and-see modus going into this key meeting.
ECB’s chief economist Peter Praet said that interest rates will again become a key policy tool for adjusting the monetary policy. He remains confident that EMU inflation will continue to accelerate toward the target of just below 2 percent, even after ECB’s recent decision to stop its monthly purchasing of bonds at the end of the year.
With traditional trade alliances shaken up, China is putting pressure on the EU to join forces against the trade war initiated by US President Trump. Chinese officials offered to open more of the Chinese market in return. However, the EU has rejected the suggestion saying the bloc is not going to take sides.
UK Prime Minister May has been pleading with EU leaders not to dismiss her ‘white paper’ right away. She will present her plan to keep the UK closely tied to European market rules for goods to her cabinet on Friday but is first taking temperature with EU officials whether the plan has a chance of surviving in EU-UK negotiations.