Global Economy & Markets, Weekly Roundup 12/04/22
The Federal Reserve is expected to ramp up policy tightening, in response to multi-year high inflation (8.5% year-over-year in March)
Key Takeaways
The minutes of the Federal Reserve March meeting provided notable information on monetary policy prospects. The reduction of its balance sheet (QT) now appears likely to be announced and to start as early as in the next meeting (May 4th), with a monthly pace of $60B for Treasury securities (holdings of $5.8T) and $35B for Agency MBS (holdings of $2.7T).
At the same time, FOMC voting members appear to support a more front-loaded hiking cycle for the federal funds rate, with financial markets pricing two 50 bps rate hikes at both the May and June meetings, taking the rate to 3% by Q1:2023.
As a result, Government bond prices extended their worst rout since 1974 (see graph page 3), with long-term interest rates increasing by +40bps to 2.78%. Real interest rates led the increase (+29 bps), albeit remaining in negative territory. At the same time, CPI inflation accelerated in March, increasing by +1.2% mom to 8.5% yoy -- a 41-year high -- from 7.9% yoy.
US equities declined by -1.3% wow and by a further -1.7% on Monday. The S&P500 faces short-term headwinds following an inverted yield curve (April 1st). Since 1959, the index has returned an average of -1% in the three months following a 2s/10s inversion, versus an unconditional average of +2%.
Looking forward, investors will closely monitor, inter alia, the Q1 earnings season which kicks off on April 13th. Consensus anticipates positive S&P500 EPS annual growth of +5% in Q1 (+5.5% 1 month ago), with 2022 expected EPS at $226. Investors will also focus on companies’ guidance. Consumer demand, inflation, supply-chains and geopolitics are factors which are expected to dominate earnings calls.
On Sunday (April 10th), the first round of the presidential election took place in France. The incumbent president, E. Macron, came first with 27.8% of the votes, with M. Le Pen following with 23.1% and J. Mélenchon with 22%. As no candidate received more than 50% of the votes, the two leading candidates will progress to a second election round on April 24th. According to polls, E. Macron leads in the second-round over M. Le Pen by 6 to 8 points.
Market reaction was muted. French equities were stable (CAC40: -8% ytd vs DAX40: -11% ytd), while the 10-year government bond yield spread over Bund declined by 5 bps on Monday to 50 bps. The OAT-Bund spread had increased to 55 bps (one-year high), ahead of the elections.
Attention is now turning to the ECB meeting on April 14th. The minutes of the March meeting confirmed that the normalization of monetary policy remains on track, in light of higher inflation, despite the war in Ukraine.
Following the end of pandemic-related purchases (PEPP holdings of €1.7T), the statement is expected to re-confirm the decisions taken at the March meeting, with its guidance pointing to a possible end of regular asset purchases (APP holdings of €3.2T) during Q3:2022 and the first hike to come 'some time' after the end of net asset purchases. According to financial markets expectations, a cumulative increase of 130 basis points by Q1:2023 is currently being priced in