Markets
(European) equity markets opened cautiously yesterday as investors pondered recent warnings on financial stability as flagged by the Fed and the ECB earlier this week. However, sentiment gradually improved. The move coincided with an easing in measures of financial inflation expectations. A correction in commodities also helped alleviate inflation fears. Equities started a protracted rebound. European indices finished 1.0%/1.5% higher. The Dow (0.56%) and the S&P (1.06%) closed with decent gains. The Nasdaq outperformed (1.77%). Recent technical warnings on a potential further correction are put on hold, at least for now. US data were mixed with the Philly Fed confirming recent tentative topping in some other activity indicators. US jobless claims declined further to 444k from 478K. The US yield curve declined with the belly of the curve outperforming (5 & 10-y declining 4.5 bp). This was almost solely due to a decline in inflation expectations (-4.25 bp 10-y break-even inflation). A 10-y US Tips auction also tailed, illustrating less interest to buy inflation protection. Bunds again underperformed with yields across the curve rising marginally (< 1bp). A 4 bp decline in the 10-y German break inflation was compensated by a similar rise in the real yield. The combination of narrowing US-German interest rates and a better global risk sentiment supported the euro and weighed on the dollar. The easing in inflation expectations wasn’t able to save the dollar. EUR/USD rebounded north of 1.22 (close to 1.2228). The DXY (89.81 close) fell back below 90.00 nearing recent lows. The euro failed to hold initial gains against sterling (EUR/GBP close 0.8617).
Yesterday’s risk rebound in Europe and the US is only partially joined on Asian markets, with China underperforming. Japan outperforms even as Japanese PMI’s showed a further setback in services sector due to the new corona wave. Japanese inflation (-0.4% Y/Y headline) remains in negative territory. The dollar stays in the defensive this morning (DXY 83.74; USD/JPY 108.75; EUR/USD 1.2235).
The preliminary release of the (EMU) PMI’s is taking center stage. The EMU composite PMI is expected to rise from 53.8 to 55.1, driven by further growth in services as the economy gradually reopens. Manufacturing is expected little changed at a high level (62.5). We expect the narrative of EMU activity catching up compared the US to be confirmed. Today’s data might confirm the trend of Bund underperformance versus Treasuries. Will ongoing better European activity momentum finally trigger a break of EUR/USD beyond the 1.2243 resistance? If so, road to the 1.2349 correction top is open. On global bond markets, we look out whether the correction in inflation expectations has much further to go. We are not convinced. This morning, UK April retail sales accelerated at a much faster than expected pace with headline sales (including auto fuel sales) rising 9.2% M/M and 42.4% Y/Y. Sterling gains only marginally in a first reaction (EUR/GBP 0.8620). The focus for sterling trading now turns to the PMI release, expected at a strong 61.9 for the composite measure.
News Headlines
Bank of Canada governor Macklem at a press conference to discuss financial stability warned that the recent rapid increases in home prices are not normal. “Counting on ever higher house prices to build home equity that can be used to refinance mortgages in the future is a bad idea”. Macklem didn’t hint at a shift in interest rates, but the Bank of Canada – who already announced a small tapering of asset purchases – could turn more hawkish at its June 9 meeting. The Canadian regulator is doing its part of the job as well. From June 1, home buyers need to show they can afford a minimum rate of 5.25% to qualify for financing. CAD strength added to yesterday’s dollar weakness, pulling USD/CAD again towards 1.20 support. The loonie trades near its strongest levels since 2015.
Israel and Hamas agreed to a ceasefire after an 11-day military conflict which started in and around Jerusalem. The deal was brokered by Egypt with support of Qatar and the US. Israel’s security cabinet voted unanimously in favour of a mutual and unconditional ceasefire, but in a statement the political leadership emphasizes that it is the reality on the ground that will determine the future of the operation.
