Friday, 10 June 2022
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•          Yesterday, the ECB turned a page. With new staff projections forecasting both core and headline inflation to stay above the 2.0% target over the bank’s policy horizon, the ECB couldn’t but formally give the highest priority to address the inflation challenge, even as growth was downwardly revised for this and next year. APP asset purchases will end in July, opening the door for a 25 bps lift-off rate hike in July. However, the ECB’s anti-inflation commitment goes further. If the inflation outlook persists or deteriorates, a bigger hike will be appropriate at the September meeting. After September, the ECB expects that a further gradual but sustained path of rate hikes will be needed. Even as decisions will be data dependent, this looks like quite a strong ‘precommitment’. EMU yields recently already anticipated the start of ECB policy normalization. Still, the prospect of one (and potentially more) 50 bps hikes forced a new break higher. The German curve bear flattened with yields rising between 13.4 bps (2-y) and 3.4 bps (30-y). European swap rates set new cycle highs across the curve. US yields rises were more modest. The belly of the curve underperformed (5-y +6.3 bps). Even so, the 2-y (2.83%) and 5-y (3.05%) are also testing cycle top levels. The change in the ECB inflation narrative didn’t help the euro, on the contrary. A new sharp risk-off correction favored the dollar. The DXY index regained the 102.73 resistance (close 103.22). EUR/USD (close 1.0617) is at risk of falling back below the 1.0627/42 support. US equities lost between 1.94% (Dow) and 2.75% (Nasdaq). The EuroStoxx 50 ceded 1.70%. Intra-EMU spreads versus Germany widened (10-y Italy + 15 bps) even as the ECB signaled to adjust PEPP reinvestments in a flexible manner to avoid market fragmentation.

•          This morning, losses on Asian equity markets (about 1.0% on average) are more modest compared the US and Europa yesterday. Even so sentiment remains fragile. Later today, the focus turns to US May inflation. Headline CPI is expected at 0.7% M/M and 8.3% Y/Y (was 8.3 in April). Core is seen at 0.5% M/M and 5.9% Y/Y (was 6.2%). Yesterday’s price action suggests that markets want hard evidence of a slowdown in the (monthly) inflation dynamics. If not, expectations for the Fed to keep a pace of 50 bps rate hikes in September (or even beyond) might be reinforced. This might push 2 & 5-yields to new cycle highs. The top in the 10-y yield (3.20%) is further away but also comes on the radar. Inflation moderating too slowly also might support further dollar gains both via higher yields and a further risk-off. EUR/USD falling below the 1.06 area, suggests further losses in the 1.0341/1.0806 trading range. This morning, the yen regains modest ground (USD/JPY 133.74) on headlines of a meeting between the Japanese Ministry of Finance and the BOJ. However, in case of higher US yields, a test of the 135.15 multi-year top might still occur, unless there comes decisive action from Japanese authorities.

News Headlines

•          Chinese inflation fell 0.2% m/m in May to stabilize at 2.1% y/y, the National Bureau of Statistics revealed. A slight rise to 2.2% was expected. The first monthly decline of 2022 came as Chinese consumers’ spending and sentiment was dampened by Covid restrictions. Food and energy remain two key price drivers in the yearly figure. Excluding both, inflation only rose by 0.9% y/y. Factory gate inflation eased further from 8% y/y to 6.4% y/y, the slowest pace since March 2021. Prices of mining and raw materials maintained double digit y/y gains though. Unchanged (core) CPI and the ongoing slowdown in PPI may ease policymaker’s concerns about inflation and could allow them to focus more on how to support growth. The Chinese yuan trades unchanged just south of USD/CNY 6.70.

•          The Turkish central bank doubled the recently introduced reserve requirement ratio for lira-denominated commercial cash loans to 20%. In the same statement published this morning, the CBRT also instructed banks to hold more lira securities for foreign currency deposits as it seeks to increase the weight of local currency assets in the collateral pool. “The aim of this regulation is to increase the effectiveness of the monetary policy within the scope of the liraization strategy.”, the CBRT explained. The Turkish lira is not impressed, losing further ground this morning to EUR/TRY 18.37. The currency since May came under pressure again after weeks of relative stability. President Erdogan over the past few days poured oil to the fire by again pressing for further rate cuts.


Real yields took over from inflation expectations in pushing the German 10-yr yield beyond long term resistance at 1.13% (2012 & 2013 bottoms) to 1.24% (38% retracement on 2008-2020 decline). The next technical reference are 1.9% (50% retracement) to 2.09% (2013 high). The ECB finally turned the corner in its inflation narrative. The central bank will end net asset purchases this month, facilitating rate hikes from July.

The Fed started its tightening cycle and published an aggressive blueprint for the remainder of the year. 50 bps rate hikes at the next meetings can be taken for granted. Quantitative tightening has started and will hit max speed by September. Growth worries triggered a small correction in May, but first support at 2.72% stood strong. Resistance stands at 3.2% (YTD high) to 3.26 (2018 high).

EUR/USD tested the 2017 low at 1.0341 which survived. The pair regained 1.0636 mostly on (temporary?) dollar fatigue. However, the 1.0806 resistance still proved one step too far, even as the ECB formally announced to start hiking rates as inflation stays unacceptably high. A persistent risk-off sentiment for now still supports the dollar.

The developing cost-of-living crisis seems to hit the UK economy first and the hardest. Weak economic data toughen the Bank of England’s dilemma in battling inflation with doubts filtering through in markets. Open division within the BoE and the limited room for further tightening pushed EUR/GBP towards 0.86. A sustained break would be a bad omen for sterling.

Calendar & Table

Note: All times and dates are CET. More reports are available at which you may sign up to.

This document has been prepared by the KBC Economics Markets desk and has not been produced by the Research department. The desk consists of Mathias Van der Jeugt, Peter Wuyts and Mathias Janssens, analists at KBC Bank N.V., which is regulated by the Financial Services and Markets Authority (FSMA). Read the full disclaimer.

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