Markets
The sell-off on European stock markets paused following Monday’s WS intraday comeback, but “rebound” gains remained limited to 0.5%-1%. Main US indices lost 0.2% (Dow), to 2.3% (Nasdaq), but closed off worst intraday levels. German Ifo business sentiment beat consensus like earlier released PMI’s. US eco data showed accelerating house prices, a sober outlook in consumer confidence and a disappointing Richmond Fed manufacturing index. The combination adds to the high inflation/(s)low(ing) growth environment we’re heading into.
Markets ignored the data going into the Fed meeting. Daily changes on the US yield curve remained confined to +- 1 bp. The German yield curve bear steepened with yields ending 0.4 bps (2-yr) to 3.7 bps (30-yr) higher in a catch-up move with the US on Monday night. 10-yr yield spread changes vs Germany ended broadly unchanged with Greece (-3 bps) and Italy (-2 bps) outperforming.
The second ballot in attempting to elect a new Italian president yielded no success. A deal is unlikely before tomorrow, when the majority to elect a president will be lowered from 673 to 505 of 1008 eligible voters. EUR/USD in technical trade briefly fell to the 1.1260 area before closing at 1.1301. The first FOMC meeting of 2022 is today’s main event. We expect the Fed to lay the groundwork for a 25 bps March rate hike/lift-off. Abruptly ending net asset purchases (normally tapered down to zero in March) is a wildcard.
We currently take into account a scenario of four consecutive 25 bps rate hikes in the US central bank’s inflation battle, before allowing for a pause once the central bank puts in motion pillar two of its normalization process: shrinking the balance sheet at stealth pace. Rapidly deteriorating inflation dynamics probably imply that risks surrounding this scenario are tilted to the hawkish side.
This means potentially more and/or bigger rate hikes and a sooner start to winding down the balance sheet. From a market point of view, we hold our downward bias for US Treasuries via higher US real rates. (Lack of) specific guidance on the balance sheet will be decisive in determining the curve’s move: flatter (no guidance) or steeper.
We expect more turbulence on risk markets. The combination of both could benefit the dollar short term. First support in EUR/USD stands at the 2021 low of 1.1186.
News Headlines
The national Bank of Hungary (MNB) yesterday increased the base rate by 0.50% to 2.90%, as was the case for the overnight deposit rate. They raised the overnight and one-week collateralized lending rates also by 50 bps to 4.9%. By increasing the ceiling of its interest rate corridor, the MNB allows for further hikes of the one week deposit rate (currently 4%). In its statement, the MNB indicated that the morphology of inflation probably has changed. Headline inflation (7.4% in December) may have approached a peak, but could decline slower than expected. At the same time, core inflation is expected to pick up further in coming months as companies are repricing their goods and services at short notice amid strong domestic demand in order to reflect rises in commodity prices and wage costs. Risks to inflation expectations and second-round effects remain skewed to the upside. The one week depot rate was/is used to respond to higher risks in financial and commodity markets. However the rise in persistent (core) inflation warrants a catching up of the base rate toward the one week deposit rate over the coming months in >30 bps steps. The prospect of a protracted hiking cycle supported the forint despite persistent global volatility. EUR/HUF closed near 358.75 compared to a start near 361. According to a report of the US Commerce department, the shortage of semiconductor ships won’t be solved anytime soon. A survey among 150 companies indicates that there remains a significant and persistent mismatch in supply and demand for ships that isn’t expected to be solved in the next six months. Manufacturers’ median chip inventory dropped from 40 days of supply in 2019 to about 5 days last year. The report suggests that there are limited options available for the US administration to address to problem. US Commerce Secretary Raimondo urged Congress to pass the Chips Act, which would unlock $52bn in subsidies to encourage domestic chip manufacturing.
