Εβδομαδιαία Επισκόπηση: Διεθνής Οικονομία & Αγορές, 12/12/23
The December calendar for central banks' meetings is likely to shape investors’ expectations for monetary policy in 2024
Key Takeaways
Global equity markets were broadly flat in the past week, albeit euro area bourses overperformed (SXXE: +2.0% wow & +15% YtD), on the back of lower euro area risk-free rates. Indeed, the German Bund 10-year yield fell by -12 bps wow to 2.26%, reaching a seven-month low of 2.20% intra-week, following dovish comments from ECB officials.
The ECB convenes on Thursday. Near-zero economic growth and, more so, the latest downward inflation surprise, appear to have taken off the table higher policy interest rates, following a cumulative increase of 450 basis points from July 2022 to September 2023 (current DFR: 4.0%). Instead, attention turns to potential hints for possible cuts during 2024.
Recall that the latest inflation readings are set to result in a meaningful downward revision for ECB staff’s projections, which back in September called for +3.2% (CPI) & +2.9% (core CPI) in 2024, on average. In the event, the headline CPI has averaged +2.7% yoy in Q4:2023, so far, versus September’s ECB projections for +3.3%. In a similar vein, the core CPI has averaged +3.9% yoy in Q4:2023, so far, versus September’s ECB projections for +4.1%.
Furthermore, regarding the inflation forecasting horizon up to 2025, ECB staff’s technical assumptions in September 2023 called for (average) Brent oil prices of €80/barrel, natural gas prices of €51/Mwh, EUR/USD of $1.09 and an average 3-month Euribor of +3.4%. Based on futures and FRA average prices in December, so far, mean expected values for 2024-2025 are €75/barrel (-6% lower compared with September), €40/Mwh (-22%), $1.10 (+1%) and +3.0%.
All told, the above-mentioned factors suggest that core CPI ECB projections for H1:2025, or earlier, could align with the 2% target. Such an outlook, if sustained in the next months, could open the door to interest rate cuts. Market pricing vis-à-vis cuts is aggressive, in our view, as according to OIS, policy rates are expected to be lower by 125 to 150 bps by end-2024.
Such an aggressiveness in terms of size, is compatible with elevated recession probabilities, an outcome that risk-markets defy. Indeed, euro area equities are up by +11% since end-October and high yield corporate bond spreads have narrowed by -64 basis points to 419 bps for the same period (+4% in terms of total return).
An earlier winddown of the PEPP bond portfolio of €1.67 trillion (12% of euro area GDP) is likely, with current guidance calling for full reinvestments of maturing securities to continue at least up to end-2024.
The Federal Reserve, on Wednesday, is expected to keep the Federal Funds Rate (FFR) unchanged at 5.25% - 5.50%. Attention will turn to the FOMC interest rate “dot plot”, the median of which in September pointed to 5.1% at end-2024, 3.9% at end-2025 and 2.9% at end-2026.
Due to decelerating US inflation (with November CPI, released on Tuesday 12th, posting a +3.1% yoy increase), FOMC interest rate projections could be revised downwards (4.5% to 4.75% for 2024), albeit strong labor market data challenge the narrative of aggressive cuts implied by financial markets (between 125 and 150 bps).
Key Takeaways
Global equity markets were broadly flat in the past week, albeit euro area bourses overperformed (SXXE: +2.0% wow & +15% YtD), on the back of lower euro area risk-free rates. Indeed, the German Bund 10-year yield fell by -12 bps wow to 2.26%, reaching a seven-month low of 2.20% intra-week, following dovish comments from ECB officials.
The ECB convenes on Thursday. Near-zero economic growth and, more so, the latest downward inflation surprise, appear to have taken off the table higher policy interest rates, following a cumulative increase of 450 basis points from July 2022 to September 2023 (current DFR: 4.0%). Instead, attention turns to potential hints for possible cuts during 2024.
Recall that the latest inflation readings are set to result in a meaningful downward revision for ECB staff’s projections, which back in September called for +3.2% (CPI) & +2.9% (core CPI) in 2024, on average. In the event, the headline CPI has averaged +2.7% yoy in Q4:2023, so far, versus September’s ECB projections for +3.3%. In a similar vein, the core CPI has averaged +3.9% yoy in Q4:2023, so far, versus September’s ECB projections for +4.1%.
Furthermore, regarding the inflation forecasting horizon up to 2025, ECB staff’s technical assumptions in September 2023 called for (average) Brent oil prices of €80/barrel, natural gas prices of €51/Mwh, EUR/USD of $1.09 and an average 3-month Euribor of +3.4%. Based on futures and FRA average prices in December, so far, mean expected values for 2024-2025 are €75/barrel (-6% lower compared with September), €40/Mwh (-22%), $1.10 (+1%) and +3.0%.
All told, the above-mentioned factors suggest that core CPI ECB projections for H1:2025, or earlier, could align with the 2% target. Such an outlook, if sustained in the next months, could open the door to interest rate cuts. Market pricing vis-à-vis cuts is aggressive, in our view, as according to OIS, policy rates are expected to be lower by 125 to 150 bps by end-2024.
Such an aggressiveness in terms of size, is compatible with elevated recession probabilities, an outcome that risk-markets defy. Indeed, euro area equities are up by +11% since end-October and high yield corporate bond spreads have narrowed by -64 basis points to 419 bps for the same period (+4% in terms of total return).
An earlier winddown of the PEPP bond portfolio of €1.67 trillion (12% of euro area GDP) is likely, with current guidance calling for full reinvestments of maturing securities to continue at least up to end-2024.
The Federal Reserve, on Wednesday, is expected to keep the Federal Funds Rate (FFR) unchanged at 5.25% - 5.50%. Attention will turn to the FOMC interest rate “dot plot”, the median of which in September pointed to 5.1% at end-2024, 3.9% at end-2025 and 2.9% at end-2026.
Due to decelerating US inflation (with November CPI, released on Tuesday 12th, posting a +3.1% yoy increase), FOMC interest rate projections could be revised downwards (4.5% to 4.75% for 2024), albeit strong labor market data challenge the narrative of aggressive cuts implied by financial markets (between 125 and 150 bps).