Markets

Selling in European stock markets halted after Monday’s WS intraday retracement, but “rebound” gains remained limited to 0.5%-1%. Major US indices fell 0.2% (Dow), to 2.3% (Nasdaq), but closed the worst intraday levels. German Ifo business sentiment beat consensus as the previously released PMIs did. US green data showed an acceleration in house prices, a sober outlook for consumer confidence and a disappointing manufacturing index from the Richmond Fed. This combination adds to the high inflation/low growth environment we are heading into.

Markets shrugged off data coming into the Fed meeting. The daily variations of the US yield curve remained confined to +- 1 bp. The German yield curve steepened, with yields ending 0.4bp (2y) to 3.7bp (30y) higher in a catch-up move with the US on Monday night. Changes in the 10-year yield spread versus Germany ended broadly unchanged, with Greece (-3bps) and Italy (-2bps) outperforming.

The second ballot to try to elect a new Italian president did not result in any success. A deal is unlikely before tomorrow, when the majority to elect a president will be lowered from 673 to 505 out of 1,008 eligible voters. EUR/USD in technical trade briefly fell into the 1.1260 area before closing at 1.1301.

The first FOMC meeting of 2022 is today’s main event. We expect the Fed to lay the groundwork for a 25 basis point rate hike/cut in March. The abrupt end to net asset purchases (normally reduced to zero in March) is a wild card.

We are currently pricing in a scenario of four consecutive 25bp rate hikes in the US central bank’s inflation battle, before allowing a pause once the central bank sets in motion the second pillar of its normalization process: shrinking the balance sheet at a stealthy pace. The rapid deterioration in inflation dynamics probably implies that the risks surrounding this scenario lean towards the hawkish side.

This potentially means more and/or larger rate hikes and a faster start to the balance sheet liquidation. From a market perspective, we maintain our downward bias for US Treasuries via higher US real rates. (The absence of) specific guidance on the balance sheet will be decisive in determining the evolution of the curve: flatter (no guidance) or steeper.

We expect more turbulence in risky markets. The combination of the two could benefit the dollar in the short term. EUR/USD’s first support is at the 2021 low at 1.1186.

News headlines

the National Bank of Hungary (MNB) yesterday increased the base rate from 0.50% to 2.90%, as was the case for the overnight deposit rate. They raised the overnight and one-week secured lending rates also rose 50 basis points to 4.9%. By increasing the ceiling of its interest rate corridor, the MNB allows for further increases in the one-week deposit rate (currently 4%). In its statement, the MNB indicated that the morphology of inflation has probably changed. Headline inflation (7.4% in December) may have approached a peak, but could decline more slowly than expected. The same time, core inflation is expected to pick up further in the coming months as businesses revalue their short-term goods and services amid strong domestic demand to reflect rise in raw material prices and labor costs. Risks to inflation expectations and second-round effects remain on the upside. The one-week deposit rate was/is used to respond to higher risks in the financial and commodity markets. yet the persistent rise in (core) inflation justifies a catch-up from the base rate to the one-week deposit rate over the next few months in increments > 30 basis points. The prospect of a prolonged bullish cycle supported the forint despite continued global volatility. EUR/HUF closed near 358.75 from a start near 361.

According to a report from US Department of Commerce, the shortage of semiconductor ships will not be solved anytime soon. A survey of 150 companies indicates that there is still a significant and persistent mismatch between supply and demand for ships that should not be resolved within the next six months. Manufacturers median chip inventory fell from 40 days of supply in 2019 to around 5 days last year. The report suggests that the options available to the US administration to address the issue are limited. US Commerce Secretary Raimondo urged Congress to pass the Chips Act, which would release $52 billion in subsidies to encourage domestic chip manufacturing.