US Bonds See Position Adjustment over Inflation Concerns
The corrective tone in bonds and rising United States Fed terminal rate expectations abated overnight Wednesday and US dollar (USD) buying was also interrupted as the dust settled on hawkish remarks by the trio of Federal Reserve speakers Wednesday including Williams, Waller and Kashkari, noted Societe Generale.
The price action, and impressive tats for the US Treasury (UST) 10-year auction, suggest the adjustment of positions since last Friday has run its course, wrote the bank in a note to clients.
Michigan inflation expectations will be published Friday before the US consumer price index (CPI) next week. Concerns that inflation may not recede as quickly as hoped are one the main takeaways for the Fed speakers Wednesday in light of the tight labour market.
The scepticism was justified by anecdotal data Wednesday from Manheim that showed that used car prices in the US rose by 2.5% m/m in January. The category has been on a declining trend in the latter part of last year and contributed to the disinflationary trend in goods prices.
If confirmed in the CPI release next week, this would enhance the probability of multiple rate increases by the Fed and could trigger renewed selling in bonds and support this tactical bounce in the US dollar, said SocGen.
Williams said maintaining real rates that are sufficiently restrictive for “a few years” is key to achieving the inflation target of 2%.
Kashkari believes the rate will need to rise as high as 5.4% or even further if the data called for it. Waller said employment gains could buoy consumer spending and maintain upward inflation in the months ahead.
Sweden’s Riksbank raised rates by 50bps to 3.0% early Thursday but SEK shorts are forced to cover after the central bank called for a stronger krona in the fight against inflation and announced active quantitative tightening (QT) from April.
It will start selling government bonds at a monthly pace of SEK3 billion to reduce asset holdings and shrink the balance sheet at a faster pace. It also decided to offer larger volumes of Riksbank Certificates, corresponding to the entire liquidity surplus in the banking system, in the weekly monetary policy operations.
Together with sales of government bonds, this should cause risk-free market rates to nudge higher and boost the appeal of the currency. The policy rate will probably be raised further during the spring.
The Riksbank raised the path by around 50bps over the forecast horizon, resulting in a peak of around 3.3%. That’s only 30bps from Thursday’s level, meaning the Riksbank may pause after the next meeting.
This won’t be the case for the European Central Bank (ECB), SocGen thought the retracement in EUR/SEK from the highs could be limited when short covering subsides. The Riksbank lowered its forecast of core inflation for 2023 to 5.5% from 5.7% but up for 2024 to 1.9% from 1.5%.
Growth was revised fractionally for this year to a 1.1% contraction from a 1.0% decline. In emerging markets (EM), Mexico’s central bank (Banxico) is forecast to raise rates within hours of the January CPI release later Thursday, added SocGen.
Core inflation likely picked up only marginally to 8.44% in January from 8.35% in December but this won’t deter the central bank to raise rates to maintain a positive spread of 600bps versus the US.
SocGen doesn’t see core inflation meeting the central bank target range of 2%-4% before the end of 2024. The bank’s call is for another 25bps increase Thursday in the policy rate to 10.75% and a statement that leaves flexibility to tighten further if necessary. Money markets are discounting a peak of just below 11% this summer.
The positive real yield and carry appeal have contributed to the decent start to the year for Mexico’s peso (MXN). The peso is the second-best performer in Latina America after Chile’s peso (CLP).
Barring a dovish shift by Banxico, a de-rating of risk assets and underwhelming incoming data from China, both the Mexican and Chilean peso may have more room to run. Immediate support for USD/MXN runs at 18.50. Back in Brazil, inflation likely edged up slightly to 5.81% in January from 5.79% in December and retail sales picked up to 2.7% y/y in December from 1.5% in November.
In the central and eastern European region, SocGen expected Romania’s central bank (NBR) to pause the tightening cycle Thursday and keep rates on hold at 7.0% after a cumulative 575bps of hikes since October 2021.
Most economists surveyed by Bloomberg expected the NBR to hold firm. The updated macro forecast will offer an indication of when the NBR expects inflation to return to the target range of 1.5% -3.5%.
Domestic inflation is still elevated at 16.37% but expectations of disinflation and solid foreign interest in EM bonds, in general, have bolstered demand for RONGBs and deflated 10-year yields to 7.45% from a peak of around 9.63% in October.
Romania issued 5.6 billion euros in Eurobonds so far this year, covering about two-thirds of its 8.5 billion euros funding requirements. The Treasury indicated it now plans to concentrate on selling domestic paper until H2.
The bond inflows have helped the RON currency to strengthen past 4.90/EUR. Wednesday, Poland’s central bank (NBP) left the key rate unchanged at 6.75%, as expected. #US Bonds See Position Adjustment over Inflation Concerns
