Thursday, 23 June 2022
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•          It was outright risk-off yesterday. The inflation scare traded for recession fears – a pattern we’ve observed before. Fed chair Powell did little to alleviate these concerns. In his testimony before Congress he reiterated a strong commitment to fight inflation but added that a recession as a result is “certainly a possibility”. The data remain the needle in the compass for future hikes. The Fed needs to see a significant slowdown in inflation before easing the pace of tightening, effectively rubberstamping a 75 bps hike in July. Fed’s Evans later confirmed that “75 is a very reasonable place to have a discussion” and he thinks that by the end of the year the Fed will be doing 25s. Harker said he would like to see rates above 3% but he doesn’t think the Fed has to accelerate rapidly beyond that level. The Philly Fed president said it is important to gauge the effects of quantitative tightening first. Both Evans and Harker were basically narrating the Fed’s dot plot as well as confirming market expectations. Market expectations for future rate hikes were thus unchanged even as US yield curves tanked up to 14 bps at the front end of the curve. The US 10y yield lost intermediate support at 3.20% (May interim cycle high). European swap yields shed between 9 (2y) and 13.3 bps (10y). European equities slumped 2.5% but capped losses to less than 1% eventually with sentiment improving gradually. US stocks recovered nearly all opening losses. UST outperformance combined with equities leaving intraday lows behind, helped EUR/USD a bit higher. The pair tested 1.06 but closed at 1.057, up from 1.053. The Swiss franc strengthened further (EUR/CHF 1.016) after SNB president Jordan repeated it may need to hike rates again after the shocker 50 bps last week. Sterling traded in the defense. Quickening inflation and more forceful BoE action hangs in the balance with dire growth prospects. EUR/GBP jumped north of 0.86 while UK Gilts outperformed peers (yields down 17 bps in the 2y/5y). The Japanese yen staged a minor comeback that stretches into current Asian dealings. USD/JPY still trades above 135 though. Moves in other currencies muted this morning. Core bonds catch a breather after yesterday’s surge higher. We think their downside remains better protected as long as growth is the dominating market theme. This may well be the case with PMI business confidence scheduled for release today. Beneath the still-solid headline figure expected at 54 for the euro zone, we’ll look for signs of easing of momentum in subseries including new orders or production. It may be tricky for the euro to sustain this week’s cautious upward trend in such circumstances. Powell’s testimony continues today with an appearance before the House. The EU meanwhile holds a summit in Brussels.

News Headlines

•          The Czech National Bank raised its policy rate yesterday by 125 bps, from 5.75% to 7%. They took the decision with 5 members in favour while 2 argued for unchanged rates. One of them will be CNB president at the next, August, meeting. Three of the 5 members who voted in favour of the significant rate hike will leave the CNB by then, suggesting scope for a potential pause or at least a significant deceleration in the tightening cycle. Czech money markets discount a policy rate peak at 7.5% in the near term. The Bank Board assessed the risks and uncertainties of the spring forecast as being markedly inflationary. In particular, higher price growth at home and abroad is having an inflationary effect. This is mainly due to a sharp rise in energy and commodity prices. Upside risks include a weaker CZK FX rate, the threat of inflation expectations becoming unanchored from the CNB’s 2% inflation target and the possibility of a less restrictive fiscal policy this year and next. The Board decided to keep its strategy of FX interventions to avoid an unwanted CZK weakening, unchanged. EUR/CZK in the wake of the decision held near 24.75 which over the past days popped up as an area where the CNB is active with its intervention regime. Czech swap yields fell by 32 bps (2-yr) to 40 bps (30-yr) yesterday as the statement no longer mentions the need to tighten further at coming meetings. This guidance is replaced by data dependence. The general market climate added to the drop in yields as well.


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. A second 75 bps rate hikes in July is still on the table. Quantitative tightening will hit max speed by September. Anticipation on even faster Fed tightening pushed the 10-y yield above the 3.2% (YTD high)/3.26% (2018 high) resistance. For now the 3.5% looks to provide strong resistance. Short-term consolidation is in store.

EUR/USD tested the 2017 low at 1.0341 which survived. The pair (temporarily) rebounded mainly as the broader dollar rally took a pause. 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. The persistent risk-off that supported the dollar has receded somewhat, alleviating immediate downward pressure.

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 0.872 resistance. The BoE in June signaled it might step up tightening, but it is unsure whether this will change fortunes 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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