HomeContributorsFundamental AnalysisRepricing Of Fed Expectations Has Started

Repricing Of Fed Expectations Has Started

Market movers today

  • Industrial production numbers for November are due for release in France and Germany. Consensus expects growth in production to abate amid new COVID-related restrictions but the current strength in the manufacturing sector may create some upside.
  • US non-farm payrolls is the key release at 14.30 CET. Expectations are low, with consensus expecting only 50K new jobs, given the weaker-than-expected reading in November and the surge in COVID-19 cases and new restrictions hitting the economy.
  • Sweden: November data for business sector production and household consumption are set for release.

The 60 second overview

Trump: In reality, financial markets do not care much about President Trump any more. But we note that overnight Trump released a video where he condemned the storming of the Capitol and he underlined that he would prepare for the Biden administration. The video came after calls for the removal of Trump by the democratic leaders in the House and Senate. Trump can be removed before time if the vice-president invokes the 25th amendment. Apparently, the vice-president tried to “hide” from the democratic leaders.

Risk rally: The Democratic win in Georgia and a Republican party more divided than ever added to hopes that we will see more fiscal stimulus on top of the USD900bn US relief package agreed before Christmas. Tech stocks staged a strong rally after the set-back the day before. Growth optimism seems to be outweighing fears of tech regulation. Note also that US inflation expectations continued to rise as 10Y break-evens reached 2.10% – the highest level since 2018, and well above the level seen before the COVID-19 crisis started.

US rate hike expectations: Over the past five months, 10y US yields have almost doubled to 1.10% as inflation expectations and supply of bonds have risen. The 2-5y segment of the US curve has been steady, however – kept low by the Fed’s forward guidance. However, this year, 5y US swap rates have risen more than 10bp, as the market has started to move forward the timing of the first rate hike from Q1 24 to the autumn of 2023. If the recovery in the US economy continues and break-evens continue to edge higher, we expect the repricing of the US money market curve seen in 2021 to continue.

Euro area inflation: Yesterday’s Euro area flash inflation release was rather weak, with a negative print of -0.3% for the fourth consecutive month. While energy remains a drag, core inflation printed at only 0.2%. The core inflation print masks heterogeneous dynamics between goods and services prices. Despite the lockdown, service price inflation rebounded slightly to 0.7% (from 0.6% in November). For markets to take EUR inflation expectations a leg higher than the 1.3% (5y5y inflation swap) pre-COVID-19 level we would have to see a further catalyst, rather than spill-over from the US. We expect a mechanical rebound in January core inflation to 0.5% due to the end of the German VAT reduction in December last year.

Equities: Thursday saw higher equity markets, with major indices posting fresh records. The US outperformed Europe, as growth and momentum fizzled out. Similar to the previous session, markets were highly diverse, with the S&P 500 up 1.5%, Nasdaq 2.6%, the Dow a modest 0.7% and Russell 2000 1.9%. Out of this, Tech and Consumer Discretionary made the largest gains (FAANGs had a good day) but in an odd combination. Financials also gained, as the reflation trade lingered. Meanwhile, investors rotated out of defensives (Consumer staples and Utilities) and Industrials. The US 10-year yield was not to blame for the growth outperformance but ticked even higher (1.1% this morning). Asian markets tag along this morning, with South Korea leading (up almost 3%) and Shenzhen lower. Similarly, US futures indicate another green opening added to the records hit yesterday.

FI: The appetite for bond duration seen earlier in the week was also the prevailing theme yesterday. As expected, both France and Spain’s longer-end supply was well received. Notably France’s 2052 supply had a bid-to-cover of 2.4 as it sold EUR3bn of the ISIN. The French DMO sold EUR11bn in total of the bonds on offer (the upper end of its announced expected range of EUR9.5-11bn). The Spanish supply was similarly well received. The European rates markets this year have been dominated so far by the spill-over from the US (expected fiscal package), ‘fresh money’ in a hunt for yield / duration in what have otherwise been mostly sideways-trading sessions in the absence of major news. The secondary market has performed solidly. The weak euro area inflation print did not change market sentiment. The 10y government bond segment ended within a tight 1bp range from Wednesday’s close. EGB curves recorded a touch of steepening from the long end (10y+).

FX: EUR/USD dropped below 1.23 as the USD rebound and shrugged off a further rise in inflation expectations and drop in real interest rates. The Scandies continue to hold, with EUR/NOK firming below 10.40.

Credit: While there were only minor moves in CDS indices with iTraxx Xover widening 1bp and Main unchanged, cash bonds had yet another good run, with HY 4bp tighter and IG 1-2bp tighter.

Nordic macro and markets

Sweden: November data for business sector production and household consumption is due for release today. At this juncture though, with a rapid rise in corona cases and new restrictions, data grows old rapidly. However, a general observation is that contrary to during the spring, manufacturing is largely unaffected this time around. In the meantime, the Riksdag has been called in to vote on a special and temporary COVID-19 law that will give the government legal authority to impose binding restrictions and even lockdowns of various activities in order to contain the spread of the virus. The law comes into effect on Sunday.

 

Danske Bank
Danske Bankhttp://www.danskebank.com/danskeresearch
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