the new equilibrium? setlak | tatiana evdokimova | denis ... · mostly second-tier data are due...
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e-markets.nordea.com/article/42746/week-ahead-wheres-the-new-equilibrium
09 February 2018
Week Ahead: Where’sthe new equilibrium?
Martin Enlund | Kjetil Olsen | Erik Johannes Bruce | Jan von Gerich | Torbjörn Isaksson | Jan Størup Nielsen | AndersSvendsen | Andreas Wallström | Amy Yuan Zhuang | Tuuli Koivu | Joachim Bernhardsen | Morten Lund | Natalia KornelaSetlak | Tatiana Evdokimova | Denis Davydov
Inverted volatility blow-up a sign of rising cost of capitalNY Fed Dudley’s potato comment dashed hopes of a dovish turnThe Riksbank’s February meeting more interesting than you might think
Read the report as pdf here.
Read our financial forecast here.
Where’s the new equilibrium?
Volatility made a roaring comeback in the equity space in the past week, with the S&P500 index futureplunging 8.5% intraday before recovering. While some, such as the Fed’s Kaplan, called this correction“healthy”, the drastic move and the associated blow-up of inverted VIX products might also be construed asa sign of fragility. We might, for instance, see less appetite for volatility-selling products due to fewer inflowsgoing forward. Elsewhere, the downdraft in crypto currencies, the ECB’s mini taper tantrum and the Fedimposing an asset cap on a major US bank also help paint a picture of gradually rising cost of capital.
The market is currently trying to find a new equilibrium between higher rates, which might threaten equityvaluation, and how greater market volatility is impacting on the central bank outlook (via e.g. tighter financialconditions). The NY Fed’s Dudley, who used to be Yellen’s second-in-command, dashed hopes of a swiftdovish turn this week, as he called recent volatility “small potatoes”.
While the exact driver of the recent volatility surge will remain debated (was it due to higher inflation orhigher rates, or is the market testing the new Fed chair Powell?), suce it to say that we often see equitieslosing steam and bond tailwinds when economic surprise indices deteriorate, which has recently been thecase.
e-markets.nordea.com/article/42746/week-ahead-wheres-the-new-equilibrium
Chart 1: Equity vs bond performance usually aected by weaker surprise indices
The spill-over from the recent equity volatility spike to other asset classes has been rather limited, however,and especially so in the FX space. Coupled with comments from ECB President Draghi that the central bankis monitoring the medium-term inflation outlook “closely” (an upgraded choice of words), it seems to haveslowed down, but not stopped, the mini taper tantrum in EUR rates.
e-markets.nordea.com/article/42746/week-ahead-wheres-the-new-equilibrium
Chart 2: EUR mini taper tantrum slowed down, but not stopped
The trend towards higher US 10y yields remains in place, with support seen in the 2.59-2.64% area(representing earlier highs), and next resistance at 2.88%. It could be that global markets will be able tohandle a regime shift towards higher yields in a non-disorderly way, but the recent volatility spike is also areminder that central banks might need to tread cautiously, as here be dragons.
Partly as a result of the recent USD rebound, the uptrend in oil prices which has been in place since lastsummer is being threatened. Why is this important? In a way, almost all popular trades are currently long oilprices in one form or another. While 5y5y inflation expectations theoretically should not be aected by spotoil prices, they are, and term premiums and nominal yields are, in turn, driven partly by changes to inflationexpectations. If oil prices break lower, it will undermine the market’s inflationary mind-set at least temporarily.
e-markets.nordea.com/article/42746/week-ahead-wheres-the-new-equilibrium
Chart 3: Brent oil prices worth watching
No setbacks in services indicators
The most recent sentiment surveys have been strong. US non-manufacturing PMI managed to edge up to59.9 – the highest level since 2005, but its empirical relationship to GDP growth has been weak in recentyears. Euro-area PMI services rose to 58 – a level not seen since August 2007. With PMI at such lofty levels, itused to be that the ECB lifted its refi rate by 25 per quarter. This pattern has vanished as the ECB has shiftedits focus away from growth to inflation (arguably to debt dynamics…).
We continue to look for softening in various sentiment indicators, especially manufacturing indicators.This will continue to drag down economic surprise indices from their lofty levels and dent the market’soptimism. While US core inflation risks are probably on the upside over the medium term, the opposite appliesto Euro-area core inflation. Deteriorating surprise indices usually imply tailwinds for bonds and somewhatweaker risk sentiment, which is what we expect to materialise over the coming months (oering betteropportunities for long-term normalisation bets).
Scandinavian: Norwegian inflation disappointment
Swedish production data for the month of December did not show any signs of weakness in the wake ofe.g. lower house prices. We still expect construction production growth to slow down over the course of2018, and more so than currently anticipated by the Riksbank. Norwegian inflation disappointed massivelyin January. While some of the decline was due to temporary factors, the outcome lowers the likelihood of ahawkish revision to Norges Bank’s rate path in March.
e-markets.nordea.com/article/42746/week-ahead-wheres-the-new-equilibrium
What’s most important in the coming week?
One reason behind the Fed’s relative cautiousness over the past year has been lacklustre inflation readings.If US core inflation picks up on Wednesday it might help convince the Fed not only to lob further ratehikes into its dot-plot, but also to hike its view of the neutral rate, which has been trending lower from4.25% in 2012 to 2.75% in 2017. The market has indeed been throwing its bets in the direction of a hikedneutral rate: the 5y1m forward gov. rate is overshooting the Fed’s neutral rate even more sharply than at theend of 2013. Alas, the consensus is looking for a modest setback in both core and headline inflation.
US retail sales on Wednesday are also worth a mention, with the US savings rate depressed (at 2.4% it’sthe lowest since 2005 – what if they start saving again? as Wynne Godley once asked) real incomes underpressure by higher inflation, and cold weather (the bomb cyclone) possibly denting sales, we would not besurprised if we see a disappointment
Chart 4: What if they start saving again?
UK core inflation on Tuesday also deserves a mention given the market’s inflationary psychology. In ourview, the eects from earlier currency weakness should increasingly fade, which might prompt inflationdisappointments in coming months.
In Scandinavia, market participants are primarily awaiting the Riksbank’s monetary policy report onWednesday (we see risks skewed towards a dovish take-away: Riksbank preview: Tensions!), as well as HOXhouse price statistics on the same day (Swedish home prices: Yet no stabilization). In Norway, Norges BankGovernor Olsen gives his annual address on Thursday.
e-markets.nordea.com/article/42746/week-ahead-wheres-the-new-equilibrium
Key research pieces over the past week:
US: Spoiler alert – negative data surprises ahead (February 7)
Riksbank preview: Tensions! (February 8)
Bank of England review: A hawkish hold (February 8)
Market Pulse SEK: Comment on rate market ahead of Riksbank (February 9)
EM FX: Still rosy long-term potential despite a bit bitter mood now (February 9)
Table 1: Main releases to watch
Editorial by Martin Enlund, Chief FX strategist
Monday
Today will be a quiet day on the data front. In Sweden, the registered unemployment rate from January willbe interesting for the Riksbank before their meeting on Wednesday. Inflation figures from Denmark is alsodue.
e-markets.nordea.com/article/42746/week-ahead-wheres-the-new-equilibrium
Tuesday
The main event today is the UK CPI figures, which will shed some more light on whether the stronger GBPthan anticipated by the Bank of England will continue to put downward pressure on core inflation. On theother side of the Atlantic, the NFIB Small Business Optimism index will give some indication of whether thegenerally elevated levels of soft indicators are beginning to slow down. In the afternoon, FOMC memberMester (voter, hawk) will participate in a discussion about monetary policy and economic outlook.
e-markets.nordea.com/article/42746/week-ahead-wheres-the-new-equilibrium
Wednesday
US CPI numbers will take centre stage today. Thus, the figures will be even more closely watched than usualby market participants in light of this week’s sell-o in equities and risky assets, which was mainly driven byrising inflation fears in the US. January’s retail sales from the US are also due. In Scandi land, the importantValueguard’s Swedish housing price data will be scrutinized before all eyes will turn to the Riksbank meeting.Elsewhere, the Euro area, Germany and Japan will announce their preliminary Q4 GDP data. Lastly, ECB’sWeidmann (ultra-hawk) and Mersch (neutral/hawk) are set to speak in Frankfurt.
e-markets.nordea.com/article/42746/week-ahead-wheres-the-new-equilibrium
e-markets.nordea.com/article/42746/week-ahead-wheres-the-new-equilibrium
Thursday
Mostly second-tier data are due today. From the US, both the Philly Fed and NY Empire State Manufacturingindices are released along with January’s industry production numbers. In the Nordics, the unemploymentrate from Sweden will be closely followed by the Riksbank and in the evening, Norges Bank’s Governor Olsenwill give his annual address in front of the central bank’s Supervisory Council. In Paris, ECB’s Praet (dove) andMersch (neutral/hawk) will also give speeches.
e-markets.nordea.com/article/42746/week-ahead-wheres-the-new-equilibrium
e-markets.nordea.com/article/42746/week-ahead-wheres-the-new-equilibrium
Friday
Today will be rather light in terms of economic releases. From the US, building permits are due while retailsales from the UK will attract some attention given the big drawdown in December. ECB member Cœuré(dove) will take the rostrum in the morning.
Martin EnlundChief [email protected]
Kjetil OlsenChief [email protected]
Erik Johannes BruceChief [email protected]
Jan von GerichChief [email protected]+358 9 5300 5191
Torbjörn IsakssonChief [email protected]+46 8 407 91 01
Jan Størup NielsenChief [email protected]+4555471540
Anders SvendsenChief [email protected]+45 55467229
Andreas WallströmChief [email protected]+46 8 407 91 16
Amy Yuan ZhuangChief Asia [email protected]+65 6221 5926
Tuuli KoivuSenior [email protected]+358 9 5300 8073
Joachim [email protected]
Morten [email protected]+4533331726
Natalia Kornela [email protected]
Tatiana EvdokimovaChief [email protected]
Denis DavydovChief [email protected]
28.9.2017
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