Poor US data intensify fears that Fed’s anti-inflation campaign might come at a huge cost for growth

Markets 

Trading was extremely volatile yesterday. Sentiment already turned more fragile immediately after the European open, despite a constructive post-Fed close in the US Wednesday. An unexpected rate hike from the Swiss National Bank (SNB) was enough to trigger a new hawkish spin. 

Especially European yields jumped sharply higher. Several German/EMU yields came close to or even touched new cycle peak levels intraday (e.g. German 10-y 1.92%, EU 10-y swap 2.72%). Moves in US bonds were less aggressive and recent top levels (in yields) stayed out of reach. Sentiment, especially on US bond markets, again turned completely in US dealings. 

A series of poor US data (jobless claims miss, disappointing Philly Fed outlook and a new sharp decline in US housing starts and permits) intensified fears that the Fed’s anti-inflation campaign might come at a huge cost for growth. In the end, US yields even declined between 9.75 bps (2-y) and 8.1 bps (30-y). The US 10-y yield intraday almost touched the 3.5% barrier, but the test was (decisively) rejected.

German/European interest rate markets also made huge intraday swings. Yields also closed well of the intraday/new cycle peak levels. German yields gained between 8.2 bps (2-y) and 4.7 bps (30-y) as markets understand that the ECB still has some catching up tightening to do. Intra-EMU spreads narrowed further as the ECB is ‘finetuning’ a new instrument to prevent market fragmentation. 

As the intraday decline in US yields was driven by worries on (US) growth, it didn’t help equities. On the contrary. US indices lost again up to 4.08% (Nasdaq). The EuroStoxx 50 ceded 2.96%.With US growth being source of uncertainty, the dollar didn’t gain from the risk-off. DXY closed at 103.63 (top of 105.78 post Fed Wednesday). EUR/USD initially dropped below 1.04, but the 1.0340 support stayed out of reach. After a nice intraday rebound, EUR/USD closed at 1.0550. Sterling profited as the BoE raised rates by 25 bps and signaled to step up rate hikes if the inflation outlook doesn’t improve (EUR/GBP close 0.8542). The Swiss franc evidently also was an outright winner (close EUR/CHF 1.02).

This morning, the BOJ left the targets for the policy rate (-0.1%) and for the 10-y bond yield unchanged. The BOJ indicated that it will monitor the impact of the currency on the economy. Still, this isn’t enough to change its guidance to keep rates at present or a lower levels. After temporary declining below 132 yesterday (admittedly partially on USD weakness), USD/JPY this morning rebounds on renewed yen weakness (USD/JPY 134.00). Sentiment on most Asian markets (except China) remains risk-off, but losses are more modest compared the WS yesterday.

The eco calendar is thin today, with only US production data. Uncertainty on the consequences of the Fed aggressive tightening for growth apparently makes especially US markets conclude that enough anticipation on further hikes is discounted. If so, recent peak levels in US yields might provide strong resistance. This could also block further USD gains for now. EUR/USD might again settle in the 1.0350/1.08 trading range.

News headlines

The World Trade Organization ended its 12th Ministerial Conference today by agreeing on a package of accords. The bodies’ consensus approach often ends with impasses given the difficulty to align 164 members. The deal includes a reduction of fishery subsidies, an intellectual-property waiver for Covid-19 vaccines, a temporarily renewal of the moratorium on e-commerce duties and pledges on health and food security. India’s demand to water down the trade body’s subsidy rule for public stockholding programs to feed the needy will be looked at by the next MC.

Argentina raised its key policy rate by 300 bps to 52%. It’s the sixth rate hike this year, starting from 38% end last year. We’re still nowhere near the pre–pandemic level of 86% in September 2019. The rate hike comes on the heels of this week’s inflation print. May inflation surged to a 30-yr high of 60.7% Y/Y. The monthly dynamic slowed to 5.1% M/M. The central bank hopes that this decreasing trend to gradually continue. Apart from price pressures, the central bank cited the rising perception of financial risk and the need to spur saving in the feeble Argentine peso.

Source: KBC Market Research Desk

Read EURUSD Forecast: Euro could extend downward correction if 1.0520 support fails