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Yields slide as disinflation bets rise; German inflation set to slow again

Yesterday saw another soft session for markets in Europe on the back of more light profit taking as we ease closer to month end, and what has been a strong month for stock markets.

US markets also struggled initially but found the downside limited after comments from Federal Reserve governor Christopher Waller that monetary policy was currently well positioned to slow the economy and get inflation back to target.

This was taken to mean that the Fed was not only done on when it comes to further rate hikes, but also that rate cuts could come sooner rather than later. He went on to say that if disinflation starts to become a concern, then rates could be cut in response, rather undermining the recent narrative put forward by Fed chairman Jay Powell that rates need to stay higher for longer.

The sharp fall in the US 2-year yield to 3-month lows along with the US dollar, however his remarks were tempered by more hawkish comments from another Fed governor Michelle Bowman who argued that more rate hikes might be needed due to the continued resilience of the US economy.

Despite this, markets chose to focus on Waller’s comments given his previously hawkish stance on rates in a sign that the consensus was starting to shift on the FOMC, however one should also be careful not to read too much into Waller’s comments in that while some modest rate cuts might come over the next 12 months, rates are unlikely to come down anywhere near as quickly as they were raised.

One main takeaway is that there is unlikely to be a rate hike in December, with the Fed on course to fall short of its Fed funds target rate of 5.6% by year end, although that was never really in doubt given recent economic data.  

In any case, yesterday’s comments saw US markets finish the session mostly higher, although the Russell 2000 closed lower.

In Europe inflation has also been slowing sharply and today’s German flash CPI for November could add further downside risk to yields with German 2-year yields already close to 5-month lows.

If we see another sharp slowdown in German inflation for November, like we did in October when we fell from 4.3% to 3%, then that would only serve to add further fuel to the argument that the ECB is blowing smoke when it comes to the idea that more hikes are possible. A slowdown to 2.5% is expected for November CPI.

If anything, further weak numbers could mean that the ECB may end up being the first central bank to start cutting again, as soon as the end of Q1 next year.

Of slightly more concern yesterday was crude oil prices finishing the day strongly higher, wiping out the losses of the last 2 days and acting as a reminder that high energy prices could well play a part in slowing the recent decline in inflationary pressure.  

The last few days has seen the pound gain ground against the US dollar, as well as the euro predominantly down to a modest shift in thinking about the UK economy and the prospect that rates might not be cut as quickly as markets originally had been pricing.

This assertion was reinforced yesterday by Dave Ramsden, Bank of England deputy governor who wanted that inflation was becoming more “home grown” and that rates would need to stay higher for some time.

Nonetheless the improvement in recent UK economic data probably has more to do with lower inflation, as well as the slide in borrowing costs seen since the middle of the summer as mortgage rates have come down.

Today’s October mortgage approvals as well as consumer credit numbers might offer some hope in this regard.

The first half of this year saw a modest improvement in mortgage approvals, after they hit a low of 39.6k back in January. The slowdown towards the end of last year was due to the sharp rise in interest rates which weighed on demand for property as well as house prices.

As energy prices have come down, along with lower rates, demand for mortgages picked up again peaking in June as approvals rising to 54.6k.

It’s been downhill since then with the sharp rise in rates during the summer months, prompting a sharp fall-off which saw approvals fall to 43.3k in September, and the lowest number this year

We have seen interest rates come down since the summer which might offer some respite to the housing market, however recent housing data would appear to suggest that consumers are holding back when it comes to the purchase of a new house. Expectations are for mortgage approvals to edge higher to 45.3k.

Net consumer credit has been slightly more resilient coming in at £1.4bn in September, which hasn’t been dissimilar to previous months. A similar number is expected today.

The latest iteration of US Q3 GDP is expected to see a modest upward revision to 5%, with personal consumption forecast to remain unchanged at 4%.

EUR/USD – pushed through the 1.0960 area and up towards the 1.1000 area with the next key resistance at the 1.1060/70 level. Upside momentum remains intact above the 1.0840 area.

GBP/USD – pushed up to the 1.2720 area yesterday, and the 61.8% retracement of the 1.3140/1.2035 down move, before drifting back. Support currently at the 1.2590 area which is the 50% level, with further upside towards 1.3000 possible on a break above 1.2740.   

EUR/GBP – continues to drift lower with another lower low with a break below 0.8650 opening a move towards 0.8620. Resistance currently back at the 0.8720 area.

USD/JPY – the failure at the 149.70/80 level has seen the US dollar slip back and below the lows of last week at 147.15. This break of key support and the 147.00 area could potentially open up a move towards 144.50.

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