Softening inflation trends in EMU influence yields and currency dynamics

KBC Market Research Desk KBC Bank

Markets

Yesterday, first November EMU inflation data from Germany and Spain come out in line with market momentum. Spain HICP inflation declined 0.6% M/M easing the Y/Y measure from 3.5% to 3.2% (3.7% expected). Core inflation also declined substantially (4.5% from 5.2%). Similar story in Germany as HICP inflation printed at -0.7% M/M and 2.3% Y/Y (from 3.0%). Technical factors and ‘erratic’ base effects due to support measures implemented last year create some noise and might cause countermoves in coming months. Whatever, softer than expected is softer than expected. German yields again declined between 8.2 bps (2-y) and 4.6 bps (30-y). Admittedly, major part of the move already occurred before the publication of the data. US markets more or less copied the trend in Europe, easing between 8.9 bps (2-y) and 6.5 bps (10-y). Comments from Fed Waller on Tuesday that the Fed is well positioned to slow the economy in a way that also might bring inflation back to 2.0% supported the case for bond bulls. Waller’s wait-and-see assessment yesterday was joined by Fed Mester and Barkin even as they didn’t formally rule out a further rate hike. US equities tried the extend the interest rate-driven rally, but gains could not be sustained. US indices closed little changed (S&P -0.09%). Soft EMU inflation data annex lower EMU yields prevented EUR/USD to hold north of 1.10 (close 1.097). At the same time, broader USD selling also eased (DXY close 102.76 from opening levels near 102.58). Sterling again outperformed the euro, maybe partially on recent comments from BoE members warning markets on early rate cut bets (EUR/GBP close 0.8640).

Asian equity markets this morning mostly show modest gains. China November PMI’s again disappointed (composite 50.4 from 50.7) raising market hope for additional policy support. US yields are ‘rebounding’ 1-2,5 bps across the curve, but don’t help the dollar (DXY 102.75, EUR/USD 1.0980, USD/JPY 146.95). Later today, the Flash EMU November CPI will be published. After yesterday’s releases, the risk obviously is for a below consensus (-0.2% M/M and 3.9% Y/Y headline, 2.7% Y/Y core) outcome. Interesting to see whether there is still additional reaction on interest rate markets or whether some consolidation can start going into the December 14 ECB policy meeting. In the US the October PCE deflators (core expected 0.2% M/M and 3.5%Y/Y), but also jobless claims and Chicago PMI will be released. US markets might still be more sensitive to weaker data. This especially might be the case for the dollar. Interesting to see whether EUR/USD can regain the 1.10 barrier. USD/JPY also looks vulnerable sub 147.

News and views

The Bank of Korea unanimously decided to keep its policy rate unchanged at the 15-yr high reached in January (3.5%). The number of board member seeing a possible need to lift rates further, dropped from six to four. A slight alteration to the policy statement creates more leeway for the central bank going forward. The commitment to keep policy rates restrictive for “a considerable time” made way for guidance that it would remain restrictive for a sufficiently long period of time to ensure inflation converged to its goal. The BoK nevertheless raised this year’s inflation forecast slightly to 3.6% and from 2.4% to 2.6% for next year following an unexpected inflation acceleration in October. Governor Rhee still indicated that inflation will converge to the 2% target by end 2024 or early 2025. One board member contemplating last month the possibility of a rate cut if geopolitics affected the economy, no longer holds that view. The Korean central bank kept this year’s growth forecast unchanged at 1.4% while slightly downgrading the one for next year to 2.1%. The Korean won this morning holds near the strongest level against a weak USD since early August (USD/KRW 1291 area).

The Bank of Mexico released its latest quarterly inflation report. They expect a return to the 3% midpoint of the inflation target (+-1 ppt tolerance band) by early 2025, but inflation can prove slightly more sticky in the short term (core CPI: 5.3% from 5.1% for Q4 2023 and 3.3% from 3.1% for Q4 2024). Banxico also raised GDP forecast from 3% to 3.3% for this year and from 2.1% to 3% in 2024. It sees 2025 growth at 1.5%. Governor Rodriguez Ceja at the press conference afterwards she saw a possibility for the start of discussions on a rate cut at the meetings next year. The central bank still has a 11.25% policy rate in place since May, making real rates very positive. In November, they prepared a pivot by changing forward guidance from stable rates for an extended period to stable rates for some time. MXN loses ground this morning with USD/MXN rising from 17.14 to 17.28...

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KBC Market Research Desk

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