The Powell Fed has a track record of wanting to be very sure and then going fast

Markets

Markets took a slow start to the trading week as the risk rally fizzled and with UK markets closed for May Day holiday. The German Dax’s outperformance (+1.1%) was exception to the rule. The index is just a session away from breaking the previous all-time high set in March, implying full retracement on the 20% (!!) hit from the build-up to and aftermath of US President Trump’s Liberation Day. At least according to this metric, it’s becoming clear that the impact of the new German government’s policies (announcements on fiscal/defense spending expected before summer) will offset the damaging impact from tariff wars. Yesterday’s sole data point was a consensus-beating April Services ISM (51.6 from 50.8 vs 50.2 expected). It’s a welcome sign after last month’s sudden collapse in the ISM (53.5 to 50.8). Details showed lower business activity (53.7 from 55.9), but an acceleration in new orders (52.3 from 50.4). Businesses cut jobs for a second month straight, though at a slower pace (49 from 46.2). The prices paid index rose to its highest level since January 2023 (65.1 from 60.9). The ISM triggered some underperformance of US Treasuries vs German Bunds. The intraday bear flattening isn’t reflected in the daily close because of performance in the run-up to the release. Daily changes on the US curve eventually ranged between 0.8 bps (2-yr) and +4.6 bps (30-yr). German yields closed between flat (30-yr) and 2 bps lower (5-yr). The US dollar erased earlier losses following the ISM with EUR/USD dipping from an intraday high at 1.1360 back to opening levels just above 1.13. Short term, we expect more underperformance of US Treasuries in combination with a stronger dollar (testing EUR/USD 1.1276/74 support). The ISM further reduced Fed rate cut bets at the June meeting, from around 33% to 25%. The US central bank is expected to keep rates steady at tomorrow’s meeting and signal no intent to break the deadlock any time soon. The trade-off between downside risks to the maximum employment goal and upside risks to price stability clearly tilt to the latter. Not only because of the expected impact from tariffs on already above target inflation, but also from the self-fulfilling risk coming from surging inflation expectations for consumers and companies. We stick to the view that the Fed rate cut pause will last at least over summer. The Powell Fed has a track record of wanting to be very sure and then going fast. If the labour market breaks, they’ll be inclined to use the ample policy room towards neutral levels as soon as possible. They showcased that last September by kicking off with a 50 bps rate cut. That contrasts hugely with the US money market view of pre-emptive 25 bps rate cuts. Today’s eco calendar is razor thin apart from a $42bn 10-yr Note auction. The success will be indicative on the return of market calm following last month’s violent sell-off at the long end of the curve (US risk premium). The real test comes on Thursday with a $25bn 30-yr bond auction. Yesterday’s $58bn 3-yr Note sale was solid.

News and views

The European Commission will today announce a plan to fully end gas imports from Russia. European officials familiar with the matter said companies will have to stop all spot market gas contracts with Russian suppliers by the end of the year while long-term contracts are due to be severed by 2027. Doing so would wean the bloc off almost fully from Russian fossil fuels. Before the invasion of Ukraine in 2022, the EU imported more than 40% of its pipeline gas imports and almost 30% of crude oil from Russia. Both significantly decreased on face value since then but in the case of gas, there has been a shift from pipeline transit to LNG. The EU last year imported a record amount of Russian LNG. The Commission’s plan is also intended as a signal to Washington that the EU stands ready to buy more US LNG as a way to reduce its trade deficit.

China’s services sector barely grew in April, the Caixin private sector PMI suggests this morning. The headline index retreated from 51.9 to 50.7, the lowest in seven months. Weak details included the slowest rise in business orders since December 2022 and staff reduction for a second month straight. Concerns over the negative impact of shifting trade policies also weighed on sentiment. Business confidence among service providers slipped to the second-lowest level recorded since data collection began in November 2005. This concerning outlook for sales led service companies to reduce their charges again despite stronger cost inflation. Despite the poor PMI, China’s onshore yuan rallies nevertheless during the first session of the month this morning. It’s mostly a catch-up move with the offshore CNH’s performance over the last couple of days, in turn linked rising trade deal hopes.

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