ECB meeting in focus today

Rates

Core bonds gradually decline throughout the session

Yesterday, global core bond slid gradually lower. US inflation data increased to above 2% in December, but printed in line with expectations. Other US eco data (production, NAHB homebuilders sentiment) had no specific impact. Fed Yellen basically repeated the message from the Dec FOMC statement and press conference (see below), but that might have been enough to push US Treasuries one more time lower, even as the last down-move of the day didn't match time-wise with her policy sensitive comments. The outperformance of the 5-yr, suggests that Yellen might have convinced markets to price the curve a bit closer to the Fed's dots rate path. In a daily perspective, the German yield curve bear steepened till the 15-yr tenor with yields 1.6 bps (2-yr) to 3.9 bps (15-yr) higher. Changes on the US yield curve ranged between +6.9 bps (2-yr) and +11.9 bps (5-yr). Technically, 125-09 resistance proves to be a tough nut to crack and might have contributed to selling by the speculative longs. On intra-EMU bond markets, 10-yr yield spreads barely changed except for a 4/5 bps narrowing for Greece & Portugal.

Dallas Fed Kaplan's said that having a discussion and debate on the Fed's balance sheet sometime this year would be healthy. He is not the first governor to suggest such debate. The outcome of that debate is important for the shape of the curve. Stopping with re-investing maturing issues and/or selling US Treasuries would steepen the curve and remove some pressure to raise FF rates (too) much. Fed chairwoman Yellen's most policy sensitive comments came well ahead of the final down-leg of US Treasuries. She said she can't give the timing of the next rate hike, which will be data-dependent, but noted that "as of last month" the FOMC expected to increase the Fed rates a few times a year, until by the end of 2019, it is close to the estimate of its neutral rate (3%). This is exactly the description of the dots rate path, but it is true that after the FOMC meeting she downplayed the slight increase of the rate path, while now she emphasized it. Yellen also said economy is close to full employment and inflation is going towards target.

ECB meeting in focus today

Mario Draghi should defend December's many important decisions, which still need to be partially implemented. He might downplay the higher inflation by pointing to subdued core prices and the temporary nature of an energy shock. If he deviates from the script of being dull by giving markets no chance to start questioning December's decisions, the market reaction should be strong.

We think there is little chance that he will give markets food to start questioning the duration or size of the APP though. (See KBC FLASH )

France and Spain conclude scheduled supply

The French Treasury taps the 0% May2022 OAT and creates a new 0% Feb2020. They aim to raise €7-8B and additionally hold a €1.5-2B inflation-linked bond auction. Grey trading suggests that the new 3-yr OAT will be priced (MS -38.4 bps) with a 8.3 bps pick-up in ASW spread terms compared with the previous benchmark (0% Feb2019). That corresponds with a 16 bps pick-up in yield terms. The Spanish debt agency sells the on the run Bono (0.25% Mar2019), launches a new 5-yr Bono (0.4% Apr2022) and taps one off the run Obligacion (4.4% Oct2023) for a combined amount of €4-5B. Grey trading suggests that the new 5-yr Bono will be priced (MS+24.6 bps) with a 13.9 bps pick-up in ASW spread terms compared with the previous benchmark (0.75% Jul2021). That corresponds with a 23 bps pick-up in yield terms. We expect both French and Spanish supply to be well digested.

US CPI and Yellen able to cement 125-09 resistance?

Overnight, most Asian stock markets trade in positive territory with Japan outperforming (weaker yen) and China underperforming. The US Note future stabilizes near the lows reached at the end of WS's trading session following a day-long slide lower and some Yellen comments. We expect the Bund to open near levels reached yesterday in after-trade (163.04).

Today's eco calendar contains several less relevant US eco data and the ECB's policy meeting. We fear that none of them will leave a stamp on trading. US eco data will be dwarfed by tomorrow's Trump inauguration. On top, in light of Yellen's comments (see higher), we only expect a negative reaction on the ECB meeting if Mario Draghi would sow doubts on its, yet partially to implement, APP programme, which is unlikely. After the umpteenth failed test of 125-09 resistance in the US Note future, we feel again comfortable to set up new short positions around this level. We expect US markets to further align with the Fed's scenario of 3 rate hikes this year.

ECB Draghi will face some awkward questions about higher EMU growth and inflation, but this won't already alter the ECB's policy view at this stage. Therefore, we expect the press conference to be irrelevant for trading, unless we are wrong. Technically, the German Bund bounced into 164.9 resistance. The short-term trading range is 162.62-164.90. As the underlying economic picture in EMU improves further, we also expect more downside in the Bund despite the ECB's bond buying. programme.

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