Because Omicron won’t deter the Fed from inflation
What happens in the bond market and beyond. The analysis by Althea Spinozzi, senior fixed Income strategist for BG SAXO
We continue to see room for a flattening of the US yield curve throughout the winter. A new wave of coronavirus could even lead to a reversal as the market will have to reconsider future economic growth.
However, we exclude that the Federal Reserve will move away from its hawkish stance given the consistently high inflationary pressures. In Europe, rates remain under control amid the distortions of Covid. However, we expect them to increase as fears regarding the omicron strain subside. The periphery will suffer from the lack of monetary and fiscal support in a context of high inflation, with the BTPS suffering the most. Meanwhile, junk bond credit spreads are widening due to rising market volatility and interest rates, a sign that investors are becoming increasingly risk averse.
The Omicron variant will not distract the Federal Reserve from inflation
It sounds like a déjà vu: another strain of Covid is pushing governments to increase travel restrictions, causing the market to panic. Investors took cover on Friday, although there is still little information on the new omicron strain. Nobody knows if it is more contagious or more deadly than the previous ones. Yet on a day when many were still enjoying the Thanksgiving hiatus, the Algos decided to sell the high-risk products and run for safe-haven assets.
Government bond yields fell sharply, with 10-year US Treasury yields down 17 basis points, below 1.5%, and 10-year German Bund yields falling below -0. , 33%, wiping out all November gains as central banks shifted to more aggressive monetary policies.
Interestingly, yields on high beta government bonds, such as Italy, also fell on Friday. It is a sign that the market expects central banks to engage in accommodative monetary policies to once again save the economy. However, this time around, this prediction may be wrong. Indeed, in recent weeks, the White House and several FOMC members have admitted that rising inflation has begun to cause concern. After being named vice president of the Fed, Leal Brainard herself said her number one priority is fighting inflation. Another "dove", Mary Daly, said she was open to accelerating the pace of tapering.
Therefore, although a new wave of Covid may lead governments to impose new blocking measures, the American central bank is unlikely to change its attitude. Covid now comes into play at a time when inflationary pressures are at record levels. New blocking measures could intensify price pressures as they further hinder supply chains. Therefore, although interest rate hike expectations eased on Friday, it is still safe to assume that the Federal Reserve will continue to cut back on its purchases, opening up to anticipated rate hikes.
Furthermore, if the White House decides on a new incentive package, this would lead to higher bond issuance, further lifting the front of the yield curve. However, long-term rates will be held back by slower or even contracting growth expectations. This scenario matches our expectations that the yield curve will continue to flatten and may even be at risk of reversal in the first half of 2022.
Regardless of how things develop regarding the Omicron variant, the market seems to agree that last week's bond rally was overdone. The yield curve is up bearish this morning with 10-year yields back above 1.5%. However, the 5s30s yield spread remains the flattest since February last year.
Nonfarm payrolls will be in the spotlight on Friday and could bolster the reasons for faster tapering in December. Tomorrow and Wednesday, Powell will discuss the CARES act and the stimulus of the Coronavirus in front of the Senate.
European rulers will suffer once the Covid distortions are resolved
Fears of a more contagious and more lethal Covid variant are easing and European yields are already rising slightly this morning. However, government bonds remain underpinned by the accommodative ECB assumption. We believe European bond yields are poised to rise once the distortions due to Covid are eliminated. Inflationary pressures continue to increase, making it more difficult for the ECB to justify supportive policies. This morning, producer prices for Italy rose to a record 7.1% monthly (20.4% YoY) and tomorrow's Eurozone CPI data is expected to rise to 4.5%. Peripheral government bonds are more vulnerable to a lack of monetary and fiscal support in an environment of high inflation. Therefore, Italy's BTPS are back on fire amid a new wave of coronavirus.
The rapid widening of credit spreads signals that sentiment is changing
Risky assets are affected by news of a new wave of coronavirus. It will be interesting to note that while stock market volatility has increased the most since January of this year, the volatility of junk bonds has been more subdued.
However, compared to the analysis conducted last Wednesday, there is a substantial difference: the spreads of junk bond credit at the level of March, show greater risk aversion among investors. So far the level of the spread remains in line with historical averages. However, it is safe to assume that if rate volatility continues to remain high, a significant widening of credit spreads could occur, leading to a deeper selloff than on Friday.
Economic calendar
Monday 29th November
– Japan: speech by BoJ Kuroda governor
– Euro zone: business climate (November), consumer confidence (November), economic climate indicator (November), industrial confidence (November), service confidence (November)
– Germany: harmonized index of consumer prices prel (nov)
– Canada: Current Account (Q3), speech by BoC Governor Macklem, speech by Schembri of the BoC
– United States: Pending Home Sales (Oct), Fed Chairman Powell's speech, Fed Bowman's speech
Tuesday 30th November
– Australia: RBA Debelle Speech, Building Permits (October)
– Japan: jobs, candidate ratio, unemployment rate (October), prior industrial production (October)
– China: NBS manufacturing PMI (November)
– Switzerland: KOF Leading Indicator (Nov)
– Germany: unemployment rate (November), speech by German President Buba Weidmann
– Italy: Gross Domestic Product (Q3), 10-Year Bond Auction, 5-Year Bond Auction
– Eurozone: Consumer Price Index prior (Nov)
– Canada: gross domestic product (September)
– United States: House Price Index (September), S & P / Case-Shiller Home Price Indices (September), Chicago Purchasing Managers' Index (November), Consumer Confidence (November), Powell and Yellen testify before the House panel on the facilitation of the CARES Act
Wednesday 1st December
– Australia: AiG performance of the Mfg index (Oct), Gross Domestic Product (Q3)
– New Zealand: Building Permits (Oct)
– China: Caixin manufacturing PMI (November)
– Germany: Retail Sales (October), Markit Manufacturing PMI (November)
– Eurozone: ECB meeting on non-monetary policy, Markit Manufacturing PMI (November)
– Spain: Markit Manufacturing PMI (November)
– Italy: Markit manufacturing PMI (November)
– France: Markit manufacturing PMI (November)
– United Kingdom: Markit Manufacturing PMI (November)
– United States: ADP Employment Change, Markit Manufacturing PMI (Nov), ISM Manufacturing Employment Index (Nov), Manufacturing New Orders Index (Nov), ISM Manufacturing PMI (Nov), ISM Manufacturing Price Paid (Nov), Fed's Beige Book, Powell and Yellen testify before the House panel on CARES Act Relief
Thursday 2nd December
– Australia: trade balance
– Japan: 10-year bond auction, consumer confidence
– Switzerland: Real Retail Sales (October)
– Italy: unemployment (Oct)
– Spain: 4-year and 10-year bond auction
– France: Auction of 10, 20 and 25 year bonds
– Eurozone: unemployment rate (Oct)
– United States: Initial unemployment claims
Friday 3 December
– China: Caixin Services PMI (November)
– Spain: Markit Services PMI (November)
– Italy: Markit Services PMI (November)
– France: Markit Services PMI (Nov), Markit PMI Composite (Nov)
– Germany: Markit Services PMI (Nov), Markit PMI Composite (Nov)
– Eurozone: Markit Services PMI (November), Markit PMI Composite (November), Retail Sales (October)
– United Kingdom: Markit PMI Composite (November)
– United States: Average Hourly Earnings, Average Weekly Hours, Labor Force Participation Rate (Nov), Non-Farm Payrolls (Nov), U6 Unemployment Rate (Nov), Unemployment Rate (Nov), Markit Services PMI (Nov) ), Markit PMI Composite (Nov), ISM Services PMI (Nov), ISM Services New Orders Index (Nov), ISM Services Employment Index (Nov)
– Canada: net change in employment (November), participation rate (November), unemployment rate (November)
This is a machine translation from Italian language of a post published on Start Magazine at the URL https://www.startmag.it/economia/perche-omicron-non-distogliera-la-fed-dallinflazione/ on Sun, 05 Dec 2021 07:45:04 +0000.