FOMC will likely be swayed by market pricing tonight
Derek Halpenny
Head of Research, Global Markets EMEA & International Securites
Global Markets Division for EMEA
T: +44 (0)20 7577 1887
MUFG Bank, Ltd.
A member of MUFG, a global financial group
USD: Easing concerns could see a hike – but is it really needed?
The 2-year UST note yield surged yesterday, by 19bps to close at 4.17% and from the closing low on Friday of 3.84%, the 2yr yield has jumped 27bps. The move this week has been largely fuelled by the revised thinking on what the FOMC is likely to do. Last week ended with banking stocks lower on the day despite a number of policy steps taken to shore up confidence after the demise of SVB and some other smaller regional banks. But the action over the weekend to provide a quick end game to the Credit Suisse uncertainty through the UBS purchase has altered sentiment notably. UBS share closed up 12.1% yesterday while the S&P Regional Bank Index closed 5.7% higher as fears receded with the First Republic share price 29.4% higher yesterday.
The OIS market is now priced at about a 80% probability of 25bps tonight and with yesterday a reasonably good day in terms of some confidence being restored to banks, the FOMC may feel it has a window to tighten. US Treasury Secretary Janet Yellen’s speech to the American Bankers Association yesterday included a hint of further support stating that further support to protect depositors “could be warranted if smaller
institutions suffer deposit runs that pose the risk of contagion”. That could possibly alleviate FOMC concerns over hiking and makes a hike more likely. We certainly do not believe a hike tonight is needed and will only be done to serve as a message that the financial system is sound and well able to deal with the monetary tightening necessary to tame inflation.
2YR YIELD SPREAD VS G10 STILL POINTS TO LOWER USD
Source: Bloomberg, Macrobond & MUFG GMR
But the overall reaction tonight is likely to come more from the communications. We will get the Summary of Economic Projections released with the updated dots profile highlighting the forecasted terminal rate for each FOMC member. The December SEP showed a dots profile showing a terminal rate of between 5.00% - 5.25%. If a hike is delivered tonight, maintaining that dots profile in tonight’s SEP would imply one more hike. Could the terminal rate still increase, like was communicated by Fed Chair Powell just before the banking turmoil kicked off? That’s certainly possible (if three of the ten members at the median 5.125% shift one hike more) but is now less likely than what it was just after Powell’s semi-annual testimony on 7th March. We see the implied terminal rate in the dots unchanged at 5.125%, implying one more hike but with a considerable risk of a 25bp shift higher to imply two more hikes after tonight.
What the FOMC must determine is to what extent they believe the loss of confidence in the banking sector will undermine the real economy. That is difficult to know at this stage but it will surely have an impact on banks’ appetite to lend that will imply tighter credit conditions. It seems very reasonable at this juncture to assume there will be a notable impact on credit flows and that should mean a more nuanced tone from Powell although he will still inevitably try and convince markets that managing the fight against inflation and financial market conditions can be separated. But that separation will only take you so far in our view – in other words the longer the financial market stress, the greater the macro impact.
A more nuanced message from the FOMC and hints that we are close to the end of the tightening cycle should keep the US dollar on a weaker footing. While Powell will stress the fight against inflation is ongoing, we don’t see that communication resonating like it has done before. If the US dollar was to rally on that kind of communication we are not sure it would be sustained for very long.
YOY CPI UPSIDE RISKS FOR Q1 2023 BUT BOE EXPECTS SHARP FALL
Source: Macrobond
GBP: Shock jump in CPI means BoE will act
The CPI data from the UK this morning is a real shock – the scale of increase in the annual rate of overall CPI from 10.1% to 10.4% when the market expected a drop to 9.9% means there is a very strong reasoning for the BoE to now ignore the recent market turmoil fuelled by the loss of confidence in certain banks and hike again tomorrow. We had previously reasoned that given the BoE decision was already a much closer call, the market turmoil would therefore allow the BoE to pause.
But that view was also premised on the assumption that we would at least see a consensus CPI print today to reinforce the weaker than expected CPI print last month.
The largest upward contributions to the MoM change of 1.1% came from restaurants and cafes; food; and clothing. The annual increase for food and non-alcoholic beverages of 18.2% was the largest in over 45yrs. The annual increase in Restaurant & Hotels of 12.1% was the largest since July 1991. Worryingly from a BoE perspective, the drop in services inflation last month (from 6.8% to 6.0%) was nearly fully reversed in February with a rise back to 6.6%. The services category Recreational & Personal jumped from 9.4% to 10.4%.
From a BoE forecast profile, this is in fact not as bad as you may think. In February, the BoE projected a Q1 2023 annual CPI rate of 9.73%. Over Jan/Feb, the annual rate is now at 9.67%. Nonetheless, a MoM decline of around 0.3%-0.4% in March is now required to avoid an overshoot of the BoE Q1 projection. Prior to the banking sector turmoil, we had assumed the BoE would hike by one further 25bps to 4.25% as an insurance. After today’s data we think that is now likely but still assume 4.25% will be the peak given the sharp declines on YoY CPI remain likely in Q2 and beyond. The OIS market is now priced for that outcome, so this will be a mild supportive factor for the pound.
KEY RELEASES AND EVENTS
|
Country |
GMT |
Indicator/Event |
Period |
Consensus |
Previous |
Mkt Moving |
|
EC |
08:45 |
ECB President Lagarde Speaks |
-- |
-- |
-- |
!!!! |
|
EC |
09:00 |
Current Account |
Jan |
16.5B |
15.9B |
! |
|
EC |
09:00 |
Current Account n.s.a. |
Jan |
-- |
28.9B |
! |
|
EC |
09:30 |
ECB's Lane Speaks |
-- |
-- |
-- |
!!! |
|
UK |
11:00 |
CBI Industrial Trends Orders |
Mar |
-15 |
-16 |
!! |
|
US |
11:00 |
MBA Mortgage Applications (WoW) |
-- |
-- |
6.5% |
! |
|
CA |
12:30 |
New Housing Price Index (MoM) |
Feb |
-0.1% |
-0.2% |
!! |
|
EC |
13:45 |
ECB's Panetta Speaks |
-- |
-- |
-- |
!! |
|
GE |
16:45 |
German Buba President Nagel Speaks |
-- |
-- |
-- |
!!! |
|
CA |
17:30 |
BOC Summary of Deliberations |
-- |
-- |
-- |
!! |
|
US |
18:00 |
FOMC Economic Projections |
-- |
-- |
-- |
!!!! |
|
US |
18:00 |
Fed Interest Rate Decision |
-- |
5.00% |
4.75% |
!!!!! |
|
US |
18:30 |
Powell Press Conference |
-- |
-- |
-- |
!!!!! |
|
JP |
23:00 |
Reuters Tankan Index |
Mar |
-- |
-5 |
! |
Source: Bloomberg
