Thursday, 25 May 2023
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•          Core bonds traded very choppy yesterday. Surging UK core inflation lifted not only gilt yields (23.7 bps at the front end!) but also German and even US yields in early morning dealings. Stubborn inflation could require an even more forceful reaction not only from the BoE. This together with the ongoing US debt ceiling stalemate weighed heavily on stocks (EuroStoxx50 -1.8%, Wall Street losing around 0.7%), in turn triggering some safe haven flows to core bonds in a move that lasted until the early afternoon. Then first US investors caused yet another turnaround, even as stocks held on to their losses. We’ve seen no specific trigger but comments from the likes of Fed’s Waller have helped. He is concerned about the lack of progress in core inflation and said that hikes shouldn’t halt until inflation is tamed. Fed’s Bostic’s in an interview published after-market vowed flexibility. He said the Fed’s is not close to its inflation goal and must retain its focus on it. Rate cuts are not something to mull before “well into 2024”. Fed minutes of the May meeting showed division whether or not further rate hikes would be necessary in a “some” vs “several” split. US rates finished 3.9 to 8.8 bps higher with the front underperforming. German yields rose up to 3.2 bps at the short end of the curve. The dollar held the upper hand vs G10 peers. DXY rose to 103.88, the highest since mid-March. EUR/USD extended losses to 1.075. Sterling was unable to profit from massive interest-rate support. Do investors perhaps fear the implications from (forced) additional BoE tightening on the economy? EUR/GBP dipped below the YtD lows before rebounding and closing marginally higher just south of 0.87.

•          The debt ceiling saga continues with Speaker of the House McCarthy yesterday after-market saying a deal in principle is possible this weekend. Things are now “better than they were yesterday [Monday]”. Meanwhile, rating agency Fitch put the US AAA-rating watch on negative. It still expects a resolution to the issue before the X-date but said the risks that there won’t be one are higher. Asian stocks decline but that’s mostly a spill-over from yesterday’s European/US performance. The issue nevertheless does start to have an impact, especially on equity markets, in recent days. Risk sentiment could remain fragile and as such further support the dollar. EUR/USD is currently testing the 1.0727/35 support area. Core bond yields, especially in the US, had an impressive run. We feel it has a lot to do with market focus shifting again from financial stability to Fed/central bank policy. The gradual grind higher may thus continue in lack of important economic data scheduled today. 3.79%/3.80% serves as a first resistance in the US 10-y in a daily perspective. If the German 10-y is to surpass 2.50%, we’re looking at 2.57% next.

News Headlines

•          The Bank of Korea for the third consecutive meeting left its policy rate as expected unchanged at 3.5%. However, Governor Rhee Chang-yong gave some hawkish comments as he indicated that a further rate hike isn’t excluded. The bank downwardly revised its forecast for economic growth in 2023 (1.4% from 1.6%) and 2024 (2.3% from 2.4%). The BOK still sees 2023 inflation at 3.5%, but expectations for 2024 were downwardly revised from 2.6% to 2.4%. Still, core inflation might stay higher for longer with the 2023 forecast upwardly revised from 3.0% to 3.3%. Trading at USD/KRW 1324.65, the Korean won eased slightly more than 0.5% this morning. More broadly, USD/KRW is holding with the established sideways consolidation pattern between  1300/1345.

•          Developing story. The internal debate within the Czech National Bank (CNB) on the path of the policy rate going forward later this year continues. Most Czech centrale bankers recently pushed back against expectations for a ‘too early’ rate cut. It even was a close call not the raise the policy rate at the previous meeting. However, after MPC member Kubicek yesterday morning, hawkish MPC member Holub yesterday in an article at the website was quoted that the debate on a rate cut might start at the end of the year as the CNB by then might have a clearer view on inflation expectations/the expected path for inflation. According to the article, Holub also indicated that current strength of the koruna helps address inflation, but he isn’t in favor to use the exchange rate as a monetary policy tool in a longer term perspective. In this respect, CNB shouldn’t actively strengthen the currency anymore. Today, Czech Prime Minister Petr Fiala and Finance Minister Zbynek Stanjura are scheduled to meet CNB governor Michl and other Bank Board members. The Czech koruna yesterday gained marginally in a daily perspective, closing at EUR/CZK 23.68.


The ECB adopted a more gradual approach by slowing its tightening pace from 50 to 25 bps in May. It stated that in the base scenario rates will be brought to sufficiently restrictive levels (i.e. more hikes to follow) and will stay there for as long as necessary. Combined with APP reinvestments fully stopping from 2023H2 on, we expect a solid bottom below European/German yields. The German 10-y is extensively testing 2.50% resistance.

The Fed hinted at a pause after delivering a 25 bps hike in May. The regional bank implosion is expected to additionally weigh on activity. But elevated inflation ties the central bank’s hands in terms of rapid rate cuts. Markets still expect rate cuts in H2 2023, but push the start increasingly further in time. Yields, both short and long term, staged an impressive comeback as a result. The 10-y surpassed 3.60% resistance, eying 3.90% next.

The US dollar struck back in May. Local financial stability concerns moved to the background and market focus returned to monetary policy. Rebounding US yields brought EUR/USD to the 1.0727/1.0735 support zone. A break lower paves the way towards 1.06 but isn’t easy with the ECB retaining a hawkish upper hand vs. the Fed still.

The pound is showing much resilience. The BoE raised rates by 25 bps. A next move higher is conditional but in any case priced in already. Divergency within the BoE about the way forward contrasts with ongoing hawkish ECB rhetoric. It adds to the weak structural GBP cards (weaker growth prospects, twin deficits, long term brexit consequences). Short term however, sterling is fighting back and holding near the YtD highs.

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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