Mon, Dec 05, 2022 @ 04:22 GMT
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What Are You Doing, Bailey?

We are only Wednesday, and the Bank of England (BoE) already intervened twice this week, to cool down the unbearable negative pressure on the British sovereign bonds.

Monday, the BoE announced it would buy more bonds until the end of this week in an attempt to give a boost to the market before it stopped purchases. But the latter didn’t prevent inflation-linked papers from recording a historic dive in the UK.

So, Tuesday, the BoE announced to buy inflation-linked sovereign bonds, as well. For a while, it looked like the latest measures helped pouring water on the burning hot British sovereign space.

But then… the BoE Governor said that UK bond investors should finish winding up positions that they can’t maintain as the BoE will halt its operations by the end of this week.

And puff.

All the BoE efforts have gone up in smoke. What Bailey did was certainly one of the biggest communication mistakes that a central banker could make. And it really came at an unfortunate time.

The gilt yields remain at alarming high levels, the UK’s gilt market remains extremely slippery, the BoE says it will just leave the mess as it is, by the end of next week and sterling is in a bad shape, because Cable slipped below 1.10 following Bailey’s comments.

Investors clearly brace for a deeper dive in UK sovereigns and the pound. But the FTSE 100 could benefit from falling sterling, as it has a high exposure to energy and mining stocks, and the crumbling sterling makes the profitable British oil companies, for example, more affordable for international investors. This is certainly why the FTSE remained more resilient compared to the S&P500. The FTSE 100 is down by less than 8% since the start of this year, whereas the S&P500 lost more than 25% since the January peak.

FOMC minutes and US inflation data

All eyes are on FOMC minutes and the US inflation data.

Today, the minutes from the FOMC’s latest meeting will reveal if some Federal Reserve (Fed) members are concerned about going ‘too fast’ in terms of rate hikes. But we will certainly not hear anything more dovish than ‘the Fed will continue monitoring economic data, especially inflation’.

Also, today, US will also reveal the latest producer price index for the month of September. The US factory-gate prices are expected to have slowed from 8.7% to around 8.4%.

Then tomorrow, we will have a better insight about the situation in consumer prices. The headline CPI is expected to have slowed from 8.3% to 8.1%, but core inflation may have spiked higher, which is bad news for those praying for the Fed to slow down the pace of its rate tightening.

One important ingredient in Fed’s decision making is the inflation expectations. Unfortunately, after two months of sharp drop in inflation expectations, we had a mixed picture at yesterday’s release. The one-year inflation expectations kept falling, which is good news, but the three-year expectations ticked higher. And both are still above the Fed’s 2% policy target.

Investors, and the world, desperately want a soft US inflation data to convince the Fed to soften its tone. Otherwise, the markets will continue being battered, jobs being lost, and economy being squeezed.

IMF cuts global growth forecast

The IMF cut its global growth forecast for next year to 2.7%, from 2.9% in July, and from 3.8% in January, and said that there’s 25% probability that growth will slow to less than 2%. In the euro area, the GDP could rise just 0.5% next year.

The EURUSD remains under a decent pressure of the strong dollar, and only a soft inflation data from the US could help the euro bears take a pause.

In Japan, things are not necessarily better. The USDJPY spiked above the 146 level for the first time in 24 years. Not only that the effect of the Bank of Japan’s (BoJ) direct intervention in the FX markets didn’t last long, but Japan’s sovereign market is also going through a historic time, because investors could no longer trade the 10-year JGBs for three days, because the BoJ broke the system by buying just too much of the 10-year bonds to conduct a yield curve control strategy.

Swap traders are now betting that the BoJ can’t carry on with abnormally low interest rates for so long, and will be forced to hike its rates at some point. Otherwise, the yen will continue losing value and even direct interventions won’t stop the bleeding in yen.

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