Moves on the US and European bond markets were modest today. The Bund future traded in a narrow sideways range between 160.78 and 160.97, maintaining yesterday’s gain. The ECB warning on the potential impact of a strong euro on inflation and thus on ECB policy, maybe helped to protect the downside in European bonds. The German 10-yr yield is little changed at 0.55%. The very long end outperforms slightly. At the same time, US Treasuries slightly underperformed Bunds, with rates rising 1-2.5 bps across the curve. The 2-yr yield set a new cycle top at 2.04%. The moves were mostly technically inspired. Fed’s Kaplan advocating a scenario of at least three rate hikes maybe helped to put a floor for US yields at the short end of the curve. Intra-EMU spread changes versus Germany were mostly limited between -1 bp (Greece) and +2 bps (Italy).

EUR/USD spiked briefly north of 1.23 early in Asia this morning. This time the gain could not be sustained and EUR/USD soon returned back lower in the 1.22 big figure. The quick reversal had some of the characteristics of a ST exhaustion move. The dollar became better bid across the board. After ECB’s Villeroy yesterday, ECB members Constancio and Nowotny also warned that a sudden rise of the euro could complicate the ECB’s efforts to bring inflation back to target. December EMU inflation was confirmed at a soft 1.4% for the headline inflation and 0.9% for the core. This was no surprise, but it reinforced the case of the ECB speakers. EUR/USD tested the 1.22 mark at the start of the US trading session. The 2-yr US/German interest rate differential rose to a cycle top of over 2.60 %. The 10-yr difference was little changed around 2%. Modest losses on global equity markets after yesterday’s sharp intraday decline on WS also contained the risk of further, disorderly USD losses. US December industrial production was strong, but mostly due to growth at utilities and in mining. The reaction of the dollar was limited. EUR/USD trades near 1.2225. USD/JPY is changing hands around 110.75.

Sterling basically followed the broader trends in the euro and the dollar amid an empty UK eco calendar. EUR/GBP drifted south in line with the overall euro correction. The pair trades currently just above 0.8850. Cable is also trading of the overnight top, but levels around 1.38 can be considered as a sign of sterling resilience. BoE Saunders, from the hawkish wing of the BoE, saw chance of faster pay growth. Over time this might translate into faster BoE rate hikes.

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News Headlines:

ECB’s Nowotny warns on FX loans returning to Eastern European region as surveys show a rise in the number of retail clients considering borrowing in foreign currencies even as interest-rate differences narrow.

Stocks of industrial metals in London Metal Exchange (LME) warehouses fell more than 40 percent last year and further declines are expected in 2018, which should in theory signal tighter supplies and fuel a price rally. However rising inventories of metals at smaller rival exchanges suggest the real supply picture is more mixed.

Fed Kaplan, a non-voting member, says in an interview with the WSJ that he has "a lot of conviction that the base case should be three moves for this year, and if wrong, it could even potentially be more than that,"

The Bank of Canada raised its policy rate by 25 basis points to 1.25%. The move was largely expected after recent strong eco data. The BoC remains cautious on the pace of further rate hikes.

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