Post date: 23/09/2019 09:20
The last major central bank meeting in September did not quite deliver with the generosity the markets had been hoping for. The Fed cut rates as expected, but it suggested that it is now on a wait-and-see mode and that absent downside surprise sin the data, it expects at most another cut over the following months. Yields in US fixed income spiked higher and dragged the dollar along with them. It finished the week up against every major peer except the Russian Ruble, which celebrated higher oil prices and was the top performing major currency worldwide.
This week, attention shifts back to the economic release calendar. This will be a critical week for our view that economic weakness has been exaggerated and central banks may be overreacting. The PMI indices of business activity in the Eurozone out Monday and a series of US inflation gauges later in the week are particularly important.
The Bank of England September meeting came and went, the MPC remains on hold, and the markets shrugged and largely ignored it, focused on Brexit. The news on this front continue to tilt positive, with the prospects for a no-deal; Brexit on October 31st receding a bit further last week. The Parliament has passed a bill forcing the Government to request a deadline extension if Parliament doesn’t agree to a deal. Our baseline scenario is still that the deadline is postponed and the issue is decided (or not!) in a new general election soon after. No news are expected here this week, so we expect the Pound to trade off events elsewhere.
The Euro will face its first big post-ECB meeting text Monday, when the PMI indices are due to be released. Any upward surprises in the dismal manufacturing subindex would likely drive a sharp short-covering rally in the common currency. While no other news of note are expected next week, we are encouraged by recent political noises in Germany towards a more stimulative fiscal stance, particularly as regards financing the transition to a greener economy. Any news on this front could also be a positive for the euro.
Economic news flow continues to trend positive in the US. The Fed indirectly acknowledged this by accompanying the expected rate cut with a more optimistic assessment of the economy than it had been implying in the past few weeks. We think the markets are still overestimating the chances of any further cuts in the US. In particular, the upward trend in core inflation that we are seeing is not consistent with further monetary stimulus. We will be paying close attention to the other inflation measure (PCE) that comes out this week to see if the upward trend is also visible there. If so, we would expect US bond yields to continue their march higher.