September, 2023
US
In September, the Federal Open Market Committee (FOMC) decided to keep rates unchanged with the target range at 5.25-5.50%. The Survey of Economic Projections (SEP) revealed an upgraded growth outlook and maintained the possibility of one more hike this year. The dot-plot in the SEP was hawkish, with the Fed anticipating cuts of only 50 basis points (bps) next year, compared to the previous projection of 100 bps. This is also less dovish than the market expectation of ~80 bps. The SEP medians indicated a committee more convinced of a soft-landing narrative. The Fed raised its growth forecast for the year to 2.1%, reflecting solid recent data. Decisions will be made on a meetingby-meeting basis. As a result, US Treasury yields surged and the curve steepened, with the 10-year rate reaching its highest level since 2007 at 4.55% and the 30-year rate reaching 4.67%, driven by market expectations of higher rates for a longer period and elevated supply.
Across the globe, other major central banks are maintaining a hawkish stance. The European Central Bank (ECB) recently raised their key rates by 25 basis points (bps) each, bringing the deposit facility to 4.0%. The Bank of England (BOE) held the bank rate at 5.25%, the first meeting in 15 where there was no rate hike. The BOE also unanimously voted to increase the pace of Gilt Quantitative Tightening (QT) over the next year to £100 billion, up from £80 billion. The Bank of Canada held its key policy rate as expected at 5%. Meanwhile maintaining a hawkish tone by expressing concerns about broad-based strength and overall weak downward momentum of core inflation, prepared to increase the policy rate if needed. In contrast, the Bank of Japan (BOJ) maintained an ultra-low interest rate at -0.1% and continued its yield curve control (YCC) framework. The BOJ pledged to keep supporting the economy until inflation sustainably hits its 2% target, indicating that it is in no rush to phase out its massive stimulus program.
Eurozone
The ECB raised rates to an all-time high however signalled the hiking cycle was close to the end. Suggesting interest rates had reached a level which maintained for a long period of time would bring inflation back to the 2% target this narrative of a pause follows a similar path to other central banks. In updated forecasts, the ECB cut its growth forecast for the next 3 years and whilst inflation was revised up for 2023 and 2024, the 2025 predication was lowered to 2.1%
UK
September saw the Bank of England (BoE) shock most market participants by keeping interest rates on hold at 5.25% following 14 consecutive rate hikes over nearly two years. A mix of data for the UK over the month as Composite Purchase Managers’ Index (PMIs) fell into “contraction” territory although beating expectations, the services sector hit a seven-month low, the economy contracted for the month of July while quarterly and annual growth was stronger than expected. All eyes were on the BoE meeting this month with the day ahead of the decision the inflation report released which showed core and headline inflation slow by more than anticipated, with food prices falling for the first time in two years. The BoE’s Monetary Policy Committee (MPC) voted 5-4 to maintain the Bank Rate at 5.25% following the drop in inflation however they cut their forecasts for economic growth for the second quarter while warning rates may need to remain at these high levels
Japan
JGB yields rose mainly over 5-20ye zone in September, and the 10yr yield ended the month 0.12% higher at 0.765%. Against the backdrop of weakness in the U.S. and European bond markets on the back of hawkish changes in the Fed’s dots towards maintaining higher policy rate for longer, and the increasing speculation regarding the BoJ’s early exit from the negative interest rate policy, the domestic bond market experienced upward pressure on yields. The overall inflation ex-perishable food was +3.1% YoY in August, and remained above the central bank’s 2% target for seventeenth straight month as food prices continued to be high. The unemployment remained at 2.7% in August, maintaining the same level as July
August, 2023
US
There was no Federal Open Market Committee (FOMC) meeting in August; however, Chair Powell delivered opening remarks at this year’s Jackson Hole Economic Symposium. Chair Powell acknowledged the recent two months of improvement in sequential core inflation and indicated that interest rates are now high enough to be “restrictive,” adding that real interest rates “are now positive and well above mainstream estimates of the neutral policy rate.” With that being said, the Chair emphasized proceeding carefully and with data dependence, highlighting that persistently abovetrend economic growth and resilience could put further progress on inflation at risk and warrant further tightening of monetary policy. The U.S. 2s10s Treasury curve ended August with -75bps of inversion, with the 2-year Treasury at 4,.87% and 10-year rates higher at 4.11%. Notably, the curve has bear steepened by 16bps throughout the month, driven by resilient economic data and stronger implications of a soft landing. Long end yields have also risen by plans for increased Treasury issuance and Fitch Ratings’ move to downgrade the U.S. credit rating from AAA to AA+.
On the U.S. data front, July core CPI print was once again below consensus expectations, coming in at 0.16% MoM and 4.7% YoY. Headline CPI rose 0.17% MoM in July, little changed from 0.18% in June and modestly rebounded the YoY rate to 3.2% from 3.0%. Overall, the report keeps the Fed on track to hold policy rates unchanged as it provided further evidence that underlying inflation is on a lower trend.
The July U.S. payrolls also registered lower than expectations. Total nonfarm payrolls employment in July added 187K jobs, below consensus expectations of 200K and prior months were revised downward. Despite average hourly earnings increasing 0.42% (leaving the YoY rate at 4.4%), the unemployment rate fell 7bps over the month to 3.5% and overall participation rate stayed flat at 62.6% for the fifth month in a row. Later in the month, job openings data showed number of available positions decreased to 8.83 million from 9.17 million in June, marking the sixth decline in the last seven months. With falling job openings and unemployment rate still within the range from last year, the Beveridge Curve continues to trend in the south direction of soft landing.
Away from the U.S., no monetary policy meetings took place for BOJ and the ECB. At Jackson Hole, Governor Ueda continued to stress that underlying inflation in Japan remains below the 2% target; despite core consumer inflation hitting 3.1% YoY in July and staying above the 2% target for the 16th straight month, inflation is “expected to decline” from here and as a result, no further policy changes are expected for the remainder of this year. For the ECB, President Lagarde reinforced that they are committed to taking decisions one meeting at a time, airing on the side of date dependency while measuring the impact of existing monetary policy.
Eurozone The absence of an ECB meeting in August ensured markets absorbed new economic data by adjusting pricing for a further interest rate hike in September. Consistent with themes of 2023, conflicting growth, inflation and labour market data ensure uncertainty remains elevated although market pricing places greater probability of a pause next month.
Eurozone economic data deteriorated further with sentiment driven surveys (purchasing managers’ index) falling to a 33-month low. Of note was the contraction within the services sector with the area beginning to follow the trend of manufacturing lower. German companies suffered the largest decline in activity with a separate measure of business confidence falling to a 10-month low. Other data points supported the slowdown in Germany with trucking activity falling to levels seen in the pandemic. On a broader scale, the decline in private lending and bank deposits within the eurozone highlights the degree to which monetary tightening is beginning to impact the real economy.
Labour data continues to reflect a market with little slack as unemployment in the eurozone fell to an all-time low of 6.4%. Despite the weakness in Germany, wages rose at a record pace of 6.6% in the second quarter suggesting a level where real wages are now flat after 3 years of decline.
Whilst this may provide additional pressure for the ECB September meeting, fears of these events supporting a wage price spiral will be minimised given the data includes one off minimum wage rises and bonuses. In addition, eurozone negotiated wages rose 4.3% in the second quarter, slightly slower than in the first quarter.
Headline inflation in the eurozone remained at 5.3%, slightly above expectations of 5.1% however core inflation (stripping out energy and food prices) softened to 5.3%. Assisted by services inflation falling, the print was seen as dovish with euro weakening and 2-year yields dropping. Supporting the belief inflation should continue to soften, weaker energy prices saw German producer price fall at the fastest pace since 2009. The trend in energy prices did change course during the month with gas prices rising by 40% at one point due to industrial action creating disruption at Australian Liquid Natural Gas plants. However, with EU already hitting its storage target more than two months ahead of schedule there is more immunity to disruption in global supply chains than last year.
In rates markets, the narrative in August was dictated by events in the US where longer end yields climbed higher, fuelled by factors ranging from possible higher neutral rate, volume of supply coming to the market or term premia required from owning longer duration assets, Treasuries underperformed the broader market. Ten-year yields hit their year-to-date highs (4.33%) however the sell-off was better contained in Europe with 10- year Bunds and UK Gilts relatively unchanged.
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-18.pdfJuly, 2023
US
In July, the Federal Open Market Committee (FOMC) resumed their rate hiking cycle after their hawkish pause the month prior. In line with market expectations, the Fed raised the Federal Funds rate by 25bps to a target range of 5.25% to 5.50%, the highest funds rate in 22 years. During the press conference, Chair Powell remained non-committal in providing any forward guidance and reiterated their data dependency and “meeting by meeting” approach, while leaving optionality for further tightening. The U.S. 2s10s Treasury spread curve ended the month with -91 bps of inversion with the 2-year Treasury at 4.88% and 10-year rates at 3.97%, steepening 15bps throughout the month.
On the U.S. data front, both the headline and Core CPI continued their softer trajectory coming in below consensus, bringing inflation closer to the Fed’s target. Headline CPI came in at 0.18% MoM and 2.97% YoY, lower than expectations for 0.30% MoM and 3.1% YoY. The Core measure, exclusive of food and energy, came in at 0.16% MoM and 4.83% YoY, below expectations of 0.30% MoM and 5.0% YoY. In response to June’s cooler CPI report, Chair Powell made it clear that, while it was a welcome development, the Fed does not think one data point makes a trend yet during the press conference.
The June US payrolls also registered lower than expectations. Total nonfarm payrolls employment in June added 209k jobs, below consensus expectations of a 230k increase. In addition, there was a -110k downward revision to the prior two-month tally. The unemployment rate fell to 3.6%, meeting consensus expectation. Since March 2022, the unemployment rate has ranged from 3.4 to 3.7%. For the fourth consecutive month, labor force participation rate remained unchanged at 62.6%. Average hourly earnings picked up by 0.4% MoM, with the yearly increase rising 4.4% YoY. Also, US economic growth unexpectedly picked up steam in the second quarter thanks to resilience among consumers and businesses in the face of high interest rates. Gross domestic product rose at a 2.4% annualized rate after a 2.0% pace in the previous three months. Consumer spending increased 1.6%, more than forecast, after surging at the start of the year.
The US 10-year Treasury opened at 3.86% and increased throughout the month, closing 10bps higher in yield at 3.96%. US rates sold off for the month but remained rangebound. Following the Fed resuming their hiking path, US nominal rates sold off ~13bps towards the end of the period. The 2yr yield ended for the July period at 4.88%. The 10yr note pushed higher, bringing the 2s10s curve to a monthly high of -92bps. The 5s30s curve increase by 16bps, reaching -17bps at month end.
Eurozone
The ECB raised interest rates to their highest ever level in July although indicated they are close to the end of the tightening cycle. Updating their messaging to advise interest rates “will be set at sufficiently restrictive levels for as long as necessary” President Lagarde used her press conference to confirm policy makers “had an open mind as to what the decisions will be in September and subsequent meetings”. The dovish tone saw the euro weaken, duration markets rally and curves steepen as front-end yields outperformed longer end yields.
Previous rhetoric from traditionally hawkish ECB speakers had set the groundwork towards a dovish meeting as governors Knot and Holzman failed to endorse further hikes after July. The change is tone is rather stark when the minutes from the June meeting is considered. Their release indicated a concern inflation was “staying too high for too long” with one member even voting for a 50bps hike. Displaying a need to be data dependent, the evolution of growth and inflation can perhaps explain the change in tone.
Inflation pressures in the US and UK faded in July with duration markets rallying following softer CPI prints. In the US, inflation rose at the slowest pace in two years whilst in the UK where inflation has remained stickier, a reduction in price increases was witnessed across a broad range of items. In the eurozone, inflation fell in July to 5.3% however core (excluding food and energy prices) was unchanged at 5.5%. One area of disappointment for the ECB was services inflation rising to a record high of 5.6% although there is hope this was largely a result of one-off variables.
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-1-1.pdfJune, 2023
US
In June, the unemployment rate saw its first deviation this month increasing 0.3% up to ~3.7% while the labor force participation rate was unchanged at 62.6%. Hiring continued to be robust in the US as June’s nonfarm payrolls print marks the 14th consecutive month where payrolls have surpassed surveyed expectations. After ten consecutive rate hikes over the past 1.5 years, the Fed decided on their first pause during June’s FOMC meeting leaving the target range between 5% and 5.25%.
Following the announcement, they hawkishly revised the end of year fed funds target range median dot-plot projection to end between 5.50% and 5.75%, suggesting two additional rates hikes for the year. These movements brought the 2024 and 2025 year-end ranges higher, endorsing the higher for longer narrative the Fed has communicated. Additionally, Chair Powell highlighted the difficulties the Fed is facing in managing monetary policy alongside the ambiguity of the lagged effects, potential credit tightening, and the resiliency of the overall macro economy in the United States. Later into the month, CPI printed slightly above consensus, driven by used car prices, with core CPI increasing while headline CPI slowed over the month. Core CPI remains above 5%, slightly lower than last month.
The US 10-year Treasury opened at 3.60% and increased throughout the month, closing 24bps higher in yield at 3.84%. US rates stayed in range for the month of June. Following the CPI print, front-end yields initially sold off while hawkish updated dots indicated more hikes. Rates later eased following the Fed’s press conference but the narrative of higher for longer rates is still likely to stress risk assets more than previously expected. The 2yr yield saw a consistent increase before ending May at 4.88%. The 10yr note pushed higher, but at a smaller magnitude, bringing the 2s10s curve to a monthly low of -107bps. The 5s30s curve flattened by 42bps, reaching -30bps at month end.
Eurozone
Interest rates in the eurozone reached their highest level since 2001 after the ECB raised rates by 25bps in June. In just under a year, the deposit rate has risen from -0.50% to 3.50% with market fully pricing another hike in July after President Lagarde commented rates “still have ground to cover”. Labour market strength saw the ECB revise their core inflation forecasts upward with 5.1%, 3% and 2.3% expected in 2023, 2024 and 2025 respectively. The ECB also confirmed it will halt reinvesting the proceeds of its €3.2tn asset purchase program in July, an action which is expected to assist shrinking their balance sheet by €25bn a month.
Driven by resilient economic data and sticky inflation (specifically in the UK), rates increased through June. European curves flattened (2s10s around -80bps) with almost 50bps of additional hikes priced by the market. Twoyear German yields are around 3.20% although remain below year-to-date highs (3.34%) reached prior to disruption in the banking sector. Despite the increase in yields, periphery spreads are resilient, German-Italy contracting with expectations of limited issuance for the remainder of 2023 assisting Italian bonds.
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-17.pdfMay, 2023
In May, U.S. debt ceiling negotiations dominated market sentiment throughout the month. Luckily, the U.S. debt ceiling deal, where U.S. President Biden and House Speaker Kevin McCarthy reached an agreement to lift the debt ceiling through to 2025 and avoid a technical default, that was passed with a few days left to spare.
This removes near-term uncertainty and thrusts the market’s focus back to the macro outlook with sticky inflation and a tight labor market. As a result, duration trended cheaper and the curve steadily flattened in May. The 10yr note traded in a 56bp intramonth range, finishing ~20bps cheaper from where we came into the month. As fears of a default gradually eased, mixed Fed rhetoric and stubbornly strong economic data ultimately helped catalyze the bear flattening.
During the May FOMC voted unanimously to raise rates 25 bps, moving the fed funds target range to 5.0-5.25%, in line with the median dot from their March SEP. When asked about the rate cuts priced by the market, Chair Powell said that it would not be appropriate to cut rates given the committee forecast for still elevated inflation at the end of the year. The Committee hinted at a pause in rate hikes for the June FOMC meeting when the statement removed mention of “some additional policy firming” being needed.
On the U.S. data front, we have seen some progress on moderating underlying inflation but there is still a ways to go. April Core CPI, released in May, rose 0.41% MoM, edging down YoY inflation back to 5.52% from 5.59%. Headline CPI climbed 0.37% mom in April, rebounding from 0.05% in March as the YoY rate inched down to 4.9% from 5.0%. Core services moderated to 0.36% MoM in April from 0.45% and the YoY rate slowed to 6.8% from 7.1%. As expected, OER and rents modestly rebounded but are averaging 0.5% mom over the past two months, down from its prior trend of 0.7%. Core goods rose 0.57% MoM in April, rebounding from 0.18% MoM in February and the YoY rate accelerated to 2.0% yoy from 1.5%. Apart from autos, which cooled 0.1% MoM, some major categories that saw gains were other goods rising 0.2% MoM, apparel and recreation goods up 0.3% mom, and medical goods and alcohol increasing 0.5% MoM. In terms of employment, the April payroll report, released in May, was consistent with a slowing labor market, but not a weak one. Total nonfarm payrolls rose 253K in April with downward revisions to prior months of 149K taking some of the shine off the report. Goods-producing employment rose 33K with support coming from construction and durable goods manufacturing. Employment in the more cyclical services sector, professional and business services, rose 43K, although temp help remained in contractionary territory with a decline of 23K. The unemployment rate fell 11 bps to 3.39% in April, the lowest level since May 1969. The overall labor force participation rate edged down 6 bps to 62.6%, pausing after starting off the year with a strong three-tenths improvement.
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-16.pdfApril, 2023
US
In April, risks related to the looming U.S. debt ceiling deadline moved into focus. U.S. tax collections are trending roughly 30% below last year’s level, suggesting the U.S. debt ceiling deadline could be reached as soon as the first half of June, as opposed to later in the summer. Markets have been responding, as evidenced by diverging yield patterns of 1-month and 3-month U.S. Treasury Bills, as well as the increased cost to purchase 1-year U.S. sovereign CDS. The 2011 debt ceiling episode indicates there is room for corporate credit spreads to widen, as the deadline approaches. Absent clarity on a path forward, the debt ceiling overhang is likely to be most pronounced for sectors and firms that derive a large portion of revenues and earnings from government spending. Notably, these developments are occurring against a backdrop where the cost of capital for corporate borrowers is already increasing and expected to remain elevated. This leaves refinancing risk and capital availability as key considerations for credit investors.
Eurozone
The absence of a European Central Bank meeting during April ensured economic data releases drove expectations for degree of tightening in May. Terminal rate for this cycle suggests at least 75bps of additional tightening remains with close to 25bps priced for the meeting in May. Mixed data continues to create uncertainty to the future path of central bank policy with ECB already raising rates by 350bps in under 1 year.
UK
April was a relatively quiet month for headlines alongside no major Central Bank meetings allowed volatility to subside after a tumultuous March. It was a strong month for the UK economy with a number of economic releases beating expectations including inflation still well above its target 2% for the Bank of England (BoE). Market pricing for the UK’s terminal rate started the month circa 4.5% and ended the month pricing circa 5%, with the next month’s Monetary Policy Committee (MPC) rate decision now seen as a done deal for a 25bps increase and anticipation of another two 25bps hikes by September. Ultimately the month’s data showed how unlikely it will be for the BoE to cool tightening anytime soon.
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-15.pdfMarch, 2023
US
March was a pivotal month for the trajectory of Federal Reserve tightening and economic outlook. What seemingly started as a continuation of February, quickly reversed course when cracks started to emerge in the US Banking System. The narrative initially centered around Silicon Valley Bank (SVB), which fell victim to an old-fashioned bank run amidst fears that it wouldn’t be able to meet liquidity needs of its depositors on March 8th. By March 10th, regulators took control of the bank, shutting it down. This made the bank’s collapse the largest since 2008. By March 12th, the US Government announced it would backstop all SVB deposits. However, the damage was done, and fears quickly spread to all US regional banks. Global banking concerns were quickly exacerbated further when, on March 15th, a top investor in Credit Suisse announced it would not be providing further liquidity to the Global Systematic Important Bank (G-SIB). As a measure of confidence, the bank tapped a $54bn credit line with the Swiss National Bank and began a $3bn tender offer. These measures did little to quell fears of the bank’s viability, and Swiss regulators began urging other measures, including a takeover. On March 19th, the government-driven sale to UBS Group AG was announced. Part of the deal was writing down all of Credit Suisse’s Additional Tier 1 Debt (AT1) (whereas typically bond holders take priority over shareholders).
It quickly became clear that monetary policy tightening in this cycle was starting to have an impact on banking systems. As a result, recessionary fears mounted, and markets quickly priced out further tightening for this year. Front-end yields in the US collapsed. UST 2-yr yield rallied by 83bps MoM to 4.06%. In peak to trough terms, it had reached a 15yr high on March 8th of 5.05% and reached as low as 3.76% on March 23rd: a difference of 129bps. Intraday swings during peak volatility were as high as 40bps. The UST 10-yr yield rallied by 53bps MoM to 3.48%. Ultimately, the market priced out nearly all further rate hikes for 2023 after the March 22nd meeting, and priced in a further 43bps of cuts for 2023. At month end, the market was expecting 55bps of rate cuts in 2023.
Eurozone
Markets were shaken in March as uncertainty in relation to the banking sector brought into question the economies fragility to higher interest rates. Beginning in the United States with Silicon Valley Bank and other regional banks, concern spread to Europe accumulating in UBS taking over Credit Suisse.
Government bonds displayed their diversification benefits with yields falling as investors sought safety. Ten-year German bund yields dropped materially whilst at the front end of the curve, investors re-assessed the degree of future interest rate hikes given the emergence of cracks in the financial system. The terminal rate of the cycle was revised lower with peak ECB deposit rate forecast falling to 3.50% (from 4.00%) although in contrast to US rates, no cuts are expected in 2023.
UK
A volatile month for global markets as March saw a banking crisis within US regional banks before making its way across the Atlantic with Credit Suisse being acquired by UBS. We also saw the three major central bank hike rates for the second month in a row. In the UK, while a large portion of the data over the month was positive for the economy, inflation unexpectedly increased after three consecutive downturns. The Bank of England (BoE) hiked rates by 25bps, yet risk markets managed to be the main driver for the move in yields, which finished lower on the month while credit spreads widened.
The start of the month saw the strongest PMI readings since June of last year with February’s finalized composite number at 53.1. Finalized GDP for January beat expectations growing at 0.3% vs exp 0.1% following the retraction in December of -0.5%. The Bank of England raised interest rates by quarter of a percentage point to 4.25% in a 7-2 vote, the 2 voted for unchanged. The Banks messaging seemed less dovish than last month following the jump in inflation, “We don’t know whether it’s going to be the peak”. The Banks governor Bailey later claimed if businesses increase prices to fight inflation the Bank might be forced to raise rates further
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-14.pdfFebruary, 2023
In February, the inversion of the US 2s10s curve worsened to -100 bps as the upside surprises from inflation and the labor market pushed the market to expect the Federal Reserve (Fed) to remain higher for longer. 2-year Treasury sold off ~61 bps to 4.92% while 10-year rates jumped ~42 bps to 3.92%. January Headline CPI increased to ~0.5% MoM pushing the annual run rate down to ~6.4% YoY. The uptick was driven by rising energy prices compiled with an increase in broad sectors within both goods and services. Core CPI surpassed consensus forecasts at ~0.4% MoM and ~5.6% YoY. This movement was driven by an increase in core goods ex-autos such as strength in apparel and medical goods. Despite the slight dip in core services, it continues to be a key figure for the Fed in its effort to bring down inflation. For the labor market, the Non-Farm Payroll data printed a dramatic increase of ~517k, resulting in the unemployment rate coming in at the lowest in over five decades at ~3.4%.
The S&P Global US Services PMI saw a minimal increase of 0.2 points for the final January data, which drove the S&P Global US Composite PMI to end at 46.8 points MoM. Following the increase in services for manufacturing, the sector saw an increase in business activity based on the ISM Services Index, which surpassed surveyed expectations of ~50.5 and instead ended at 55.2 points MoM. The Federal Reserve (Fed) stepped down the size of its rate hike, as expected, on February 1st and raised the Federal Funds rate by 25 bps to a target range of 4.50% to 4.75%. While Chair Powell did recognize that the trend for inflation is moving in the right direction, he reiterated the need for ongoing increases in the target range. Chair Powell also pushed back against market expectations that the Fed will cut rates later in the year as inflation eases and economic growth slows. Fed officials were seen generally more hawkish over February after data showed the economy continues to be strong and inflation likely sticky, with some officials favoring a half-point hike in March and signaled that interest rates may potentially need to be increased further.
The US 10-year Treasury opened at 3.51% and increased throughout the month, closing 41bps higher in yield at 3.92%. The market repricing of the Fed expectations was the main theme in February. We started with the FOMC which was best summarized as a hawkish statement followed by a dovish presser. Post FOMC, the bullish tone quickly reversed with strong data throughout the month. The market priced a higher peak FFs rate and pushed back rate cut expectations into 2024. The 2s10s curve decreased throughout the month, ending 19 bps lower at -100 bps. The 5s30s curve decreased by 29 bps, reaching -28 bps at month end.
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-13.pdfDecember, 2022
US
In December, the Federal Open Market Committee (FOMC) raised the Federal Funds rate by 50 bps to a target range of 4.25% to 4.50%, a step down from the 75bps pace seen in the past four consecutive meetings. While the Fed slowed the pace of rate hikes, the Committee’s median projection of a further 75 bps hike suggests monetary policy remains on a tightening path. In the accompanying press conference, Chair Powell’s opening remarks drove a hard stance on the fight against inflation and the need for more evidence that inflation is abating. While the Fed clearly communicated vigilance, Powell recognized the lagged effects of policy, paving the way for a continued downshift in the pace of hikes if conditions warrant.
On the U.S. data front, the November Core CPI showed a second consecutive soft inflation print. Core CPI rose to 0.2% MoM, the smallest increase since August 2021, a sign of moderation. Headline CPI rose 0.1% MoM bringing the annual run rate to 7.1%, the smallest annual increase since December 2021. Details showed autos prices falling -1.3% MoM, with used cars seeing a steeper decline of -2.9% MoM. Owners-equivalent-rent and rent of primary residence ticked up to 0.68% and 0.77% MoM, respectively. Though rents increased after falling the previous month, we view this reading as positive as it provides supporting evidence that rents have likely peaked/are no longer accelerating sequentially, and thus the next phase will be deceleration — likely in early 2023.
Eurozone
Despite slowing the pace of the rate hikes, the last ECB meeting of the year provided a hawkish message with President Lagarde stressing the need to increase rates “significantly higher”. The deposit rate is now 2%, with speed of recent tightening (250bps in the last 6 months) unprecedented as ECB looks to subdue extremely elevated levels of inflation. Plans were also released to stop replacing maturing bonds from its Eur5trn balance sheet, reducing monthly reinvestments from its Asset Purchase Programme by Eur15bn starting in March with any revisions to the pace of reduction occurring from July. Updated ECB staff projections reflected the hawkish rhetoric with inflation expected to stay above 2% until 2025. The forecast for 2023 inflation was increased to 6.3% from 5.5% with core (excluding energy and food) 4.2% from 3.4% despite notable improvements in energy markets and further easing of supply bottlenecks. GDP growth was revised down to 0.5% next year while the 2024 projection was unchanged 1.9%.
November, 2022
US
On November 2nd, the Federal Open Market Committee (FOMC) raised the Federal Funds rate by 75 bps, representing the fourth 75 bps move this year. In the accompanying press conference, Chair Powell stated that “restoring price stability will likely require maintaining a restrictive stance of policy for some time.” The committee remains focused on fighting inflation and preventing higher inflation expectations from getting entrenched in the economy. According to Kansas City Fed President George, the tight labor market in the US poses challenges to bringing inflation down to target without “some real slowing, and maybe we even have contraction in the economy to get there.” The primary reaction function of the Fed remains focused on curbing inflation, which will keep the Fed moving, but with the market questioning early indications that the Fed may downshift its rate hike increment moving forward.
On the U.S. data front, the October Core CPI print came in much lower than expected. Core CPI cooled to 0.3% MoM, showing some compelling signs of moderation in the month of October. Details showed that owners-equivalent-rent and rent of primary residence slowed to 0.62% MoM and 0.69% MoM respectively, representing the lowest readings since May and an early sign that sticky housing costs may have peaked. Headline CPI rose 0.4% MoM, a slight pickup from 0.39% in September. There were also other signs of economic activity slowing with the S&P Global US services PMI moving lower to 46.1 MoM. In rates space, 10-year U.S. nominal rates fell ~43 bps to 3.61%. U.S. Equities posted positive performance with the S&P500 up by 7.58% in November, which accounts to a 15.67% decrease for this year
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-11.pdfOctober, 2022
US
In October, economic data continued to corroborate high price pressures, tight labor markets, and the Fed rhetoric remained hawkish as expected. In the United States, nominal yields on the UST 2-yr sold off by 20bps, to close the month at 4.48%. Further out on the curve, the nominal yield on the UST 10-yr hit new highs throughout the month and closed at 4.05%. US. Equities had positive performance with the S&P500 up by 8.1% in October, making this the 4th best performance month for the SPX since 1928.
There was no scheduled FOMC meeting in October as participants entered a quiet period prior to their November meeting. It is widely expected the committee will vote to raise the federal funds target range by another 75 bps to 3.75-4.0%, meaning the focus will be on the Chair Powell’s comments regarding their last meeting of the year and beyond. Since the July FOMC meeting, the Chair has reiterated that there will come a time when it will be “appropriate to slow the pace”. Given the Fed speak leading up to the November meeting, Powell could use his press conference to guide toward a more balanced approach to policy adjustments and a slowing in the pace of increases. Decisions are ultimately made at the meeting itself though, so he’ll likely still keep some optionality on the table. Slowing is not pausing however; they are still committed to the fight to restore price stability. By the end of the year, the Fed’s rapid pace of tightening will have brought the fed funds rate from 0% to above 4.0% within nine months.
The October inflation print displayed an overall continuation of some persistent price increases. Headline CPI printed 0.39% MoM and slowed to 8.20% YoY while Core CPI, excluding food and energy, came in at 0.58% MoM and rose to 6.66% YoY with continuing evidence of strength in the services sector and a welcome deceleration in the goods sector. Within the details, services inflation showed strength nearly across all the categories with shelter inflation in particular running at 0.7% MoM. In addition to shelter, physicians services, hospital services, transportation services, and new cars added to inflationary impulse.
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-10.pdfSeptember, 2022
In September, the market was once again defined by a backdrop of continually high inflation prints and hawkish central banks driving global sovereign yields higher, as markets moved to reprice the path of global monetary policy. In the United States, nominal yields on the UST 2-yr sold off by 79bps, to close the month at 4.28%. Further out on the curve, the nominal yield on the UST 10-yr sold off to a lesser extent, but a still significant amount, of 64 bps to close the month at 3.83%. US. Equities fared poorly, with the S&P500 dropping by -9.2% in September as markets braced for continued monetary policy tightening.
A strong inflation print in September showed strength across both goods and services. Headline CPI rose by 0.12% in August, bringing the YoY gain to 8.3%, lower than what we had seen in July. However, core CPI was the surprise with a monthly increase of 0.57%, bringing the year over year gain to 6.3%, higher than the 5.9% seen last month. The main story was shelter inflation which rose 0.69% this month (after 0.54% in July) with strength coming in both the rental and the owners’ equivalent rent categories. Rental inflation is currently running at 6.7% which is the highest in almost 4 decades. Following the strong inflation print, The Fed raised rates by 75bps during the September FOMC meeting, bringing the Fed Funds rate to 3-3.25%. With this latest hike, the Fed has raised rates a total of 300 bps over a 7-month period which is the fastest tightening since 1980s. The Statement of Economic Projections (SEP) that accompanied the rate rise provided details on the projected path ahead. By end of 2022, the Fed estimates the funds rate to be at 4.4% up 100bps from their June projection. This would imply another 75bps in November and 50bps in December. By end of 2023, the estimated Fed funds rate is at 4.6% up from 3.8% projected in June – implying another 25bps of hiking in 2023 before reaching terminal rate. During the press conference, Chair Powell homed in on the “higher for longer” narrative and “will do what it takes” to control inflation. He repeated that there will be some economic pain to businesses and households in the process of lowering inflation but that is needed for bringing inflation down.
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-9.pdfAugust, 2022
The month of August was defined against a backdrop of continually high inflation prints driving global sovereign yields higher, as markets moved to reprice the path of global monetary policy. In the United States, nominal yields on the UST 2-yr sold off by 55bps, to close the month at 3.45%, at one point touching 3.50% for the first time since 2007. Further out on the curve, the nominal yield on the UST 10-yr sold off to a lesser extent, but a still significant amount, of 48 bps to close the month at 3.15%. These were notable moves to be sure, though relatively benign when compared to moves in the UK and Europe where Gilts and Bunds cheapened by more than 95bps and 70bps, respectively, on the month. This comes on the back of a more acutely sustained energy price shock due to the war in Ukraine, which has caused inflation expectations to the upside, compared to opposite moves observed in the US. Equities fared poorly, with the S&P500 dropping by -4.2% in August as markets braced for continued monetary policy tightening
While there wasn’t an FOMC meeting in August, the Federal Reserve was still able to communicate their thought process, and emphatically so, in the yearly Jackson Hole Symposium on August 26th. Fed Chair Powell’s remarks to the Jackson Hole conference, while light on detail, offered a clear policy message: the Fed is determined to bring inflation back to target, and this calls for higher rates for longer, even though that will likely damage the economy. This follows Fed rhetoric throughout the month which placed more of an emphasis on holding rates higher for longer, as opposed to frontloading hikes and then pivoting, as was previously anticipated. Pricing on the front-end of the yield curve shifted to reflect the change in messaging, and subsequently pushed the terminal rate higher and priced out 35bps of cuts from 2023. This deviates from July’s FOMC which was interpreted by markets as being gently dovish.
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-8.pdfJuly, 2022
In July, investors primarily focused on the Federal Reserve’s (Fed) hiking path amidst slowing economic data. Over the month, 10-year on-the-run (OTR) nominal rates moved ~36 bps lower, while 10-year OTR real rates rallied ~57 bps. The Federal Open Market Committee (FOMC), on Wednesday, July 27th, raised its policy interest rate by 75bps to continue the path of normalization. In addition, Chair Powell stated that we should not expect the same clear meeting-ahead forward guidance that we saw in past meetings, but “it likely will become appropriate to slow the pace of increases while we assess how our cumulative policy adjustments are affecting the economy and inflation.” They’re going to be datadependent and make decisions meeting-by-meeting. The committee will continue to remain focused on fighting inflation and preventing higher inflation from getting entrenched as the labor market is now extremely tight.
In data, the June nonfarm payroll report added 372k jobs, another solid monthly gain, indicating the labor market remains strong. Details showed private employment led the gains with a 381k increase across most sectors over the month. Elsewhere in the report, labor force participation edged lower to 62.2% MoM, remaining well below the pre-pandemic level of 63.4% in February 2020. Taken together, the unemployment rate remained at 3.6% for the fourth month in a row. Average hourly earnings increased in 0.31% in June, moving the YoY rate down to 5.11%. In other data, the ISM manufacturing index moved lower to 53.0 points in June from 56.1 points in May, pointing to the slowest growth in factory activity since June 2020. The advanced estimate of Q2 GDP released on July 28th, 2022, showed a second consecutive decline at a 0.9% annualized rate. The print highlighted the increasing possibility of a recession as decades high inflation cooled the growth trajectory. The June CPI report showed another robust gain in core and headline series. Core CPI increased by ~0.7% MoM or ~5.92 % YoY. Details showed used cars and shelter prices contributed to the strong monthly gain. Taken together with the strong core print, energy and food prices continued to move higher, pushing headline CPI to increase 1.3% in June, moving the YoY rate to 9.1%.
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-7.pdfJune, 2022
The month of June saw a resurgence in volatility after a brief reprieve, as the market’s focus toggled between persistently high inflation prints and growing fears around a potential recession. Bond markets witnessed substantial volatility – the US 10Y yield moved higher by 57 bps in the middle of the month, and then fell by 61 bps over the final 2 weeks to close June relatively flat at 3.01%. Equities continued to sell off with the S&P down over 8% on the month and ~20% YTD, making it the worst first half decline since 1970.
With respect to monetary policy, Fed speakers at the beginning of June suggested 50 bp hikes in June and July would create sufficient near-term tightening under the assumption that monthly inflation prints would decelerate. However, a surprisingly strong CPI print released the week prior to the June 15th FOMC meeting forced the Fed to accelerate its hiking path, raising rates by 75 bps. While the committee “does not expect moves of this size to be common,” they have raised guidance for the path of hikes for the rest of the year – potentially into restrictive territory in 2022 – and will be looking for compelling evidence that inflation pressures are abating before considering a pause. Importantly, the Summary of Economic Projections revealed an acknowledgment that restoring price stability will require some economic pain, likely in the form of higher unemployment.
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-6.pdfMay, 2022
Over the month of May, the market focused on the Federal Reserve’s projected hiking path and the continuing tensions between Russia and Ukraine. Equity risk assets saw some reprieve as the S&P 500 managed to bounce by almost 6% in the final week of the month after 7 consecutive weeks of declines. Bond markets also managed to stage a moderate pullback in yields, with 10-year and 2-year nominal rates declining about 9bps and 16 bps respectively.
At the beginning of the month, The Federal Open Market Committee (FOMC) raised its policy interest rate by 50bps to start the path of normalization. In addition, the committee anticipates “ongoing increases in the target range will be appropriate” and announced the start of balance sheet runoff. As previously suggested by the March minutes, the pace of runoff was confirmed today as $95 billion/ month ($60 billion in U.S. Treasuries and $35 billion in Agency mortgage-backed securities), with a three-month phase-in period. The committee will continue to remain focused on fighting inflation and preventing higher inflation from getting entrenched as the labor market is now extremely tight. On the economic data front, we received blockbuster jobs report with 428,000 jobs gained, above market expectations for a 380,000 gain. This solid report suggests continued tightness in the US labor force, particularly given wages that continue to increase. Details showed private employment led the gains with a 406k increase across most sectors over the month. The households survey was less rosy in April, with the unemployment rate staying at 3.6% MoM. Average hourly earnings increased in 0.31% in April, moving the YoY rate down to 5.46%.
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-5.pdfApril, 2022
Volatility continued into April, driven early by solid payroll gains and ISM Manufacturing data, both of which served to confirm a hawkish path for the Fed and helped to drive rates higher with 2-year yields closing the month at 2.72%, +37bps for the period and +196bps YTD. The hawkish lean helped to briefly invert the US yield curve (2s10s) early in the month before longer end rates pushed higher, driven by elevated inflation figures and investors demand for a higher term premium for holding longterm government bonds. Further uncertainties surrounding the war in Ukraine and the COVID induced lockdown across major cities in China, kept intraday volatility elevated and helped to pressure risk assets broadly.
Specific to monetary policy, the Federal Open Market Committee (FOMC) meeting minutes released in the first week of April signaled that the Fed is ready to entertain 50bps rate hikes going forward, and that it intends to start reducing its bond holdings with peak caps of $60bn/month for Treasury securities and $35bn/month for mortgage-backed securities (MBS) as early as May. Along with the minutes, a number of remarks from FOMC members doubled down on the message of tighter monetary policy on the horizon and even active sales of MBS as the focus for policy makers clearly shifted to a focus on addressing elevated and sticky levels of inflation.
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-4.pdfMarch, 2022
Labor and inflation data remained strong over the month. Headline CPI increased 0.8% month-overmonth, bringing year-over-year to 7.9%, marking the fastest increase since 1982. Our current forecastis for a headline CPI of 4.7% and a core CPI of 4.2% by year-end. US non-farm payrolls increased by 431,000 and prior months were revised higher, with the three-month moving average now at 562,000. The unemployment rate also fell to 3.62%.
With inflation well above 2% and the Fed’s hawkish backdrop, front-end rates have moved meaningfully higher as markets are pricing 8 additional rate hikes for 2022. The selloff in the frontend led to a dramatic flattening of the nominal yield curve. Consequently, the 2y10y briefly inverted toward the final days of the month.
Inflation prints continued to surprise to the upside, Eurozone inflation coming in at 7.5%. At the country level, German inflation rose to 7.6% YoY in March, up from 5.5% in February, Spain to 9.8% from 7.6%, and France to 5.1% from 4.2%. Rising energy prices remain the main driver behind the increases, although food and commodity prices have also risen significantly in recent months.
Japanese Government Bond yield rose mainly via medium to long-end, and the 10Yr yield ended the month 3 bps higher. JGB yields came under upward pressure as US and European bond yields continued to rise against the backdrop of rising inflation, hawkish results at the Fed and ECB policy meetings, and subsequent statements from FOMC members that suggested aggressive monetary tightening.
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-3.pdfFebruary, 2022
By month-end, markets returned to pricing in roughly six rate hikes in 2022, and the level of rates was roughly unchanged from the start of the month, as the selloff in rates was offset by the rally late in the month. The minutes of the January FOMC meeting provided little to no forward guidance about the policy rate path, including whether the Fed would deliver a 50 bp rate hike in March. During this time market expectations were 50/50 on a 50 bp rate hike, and since the onset of heightened geopolitical turmoil, expectations are now around 20%. Consequently, the economic outlook overall raises new questions and challenges for global policymakers.
Headline CPI data printed at a strong 0.6% month-over-month and came in at 7.5% year-over-year, the greatest increase over a 12-month period since February 1982. We expect for Core PCE inflation to potentially migrate to the 2.5% to 3.5% range by year-end, as many of the logistical bottlenecks loosen up over time, alongside base-effect dynamics. Our view is that the need to move policy persistently and aggressively away from overly accommodative conditions, and toward a more neutral and appropriate stance, executing on this pivot is going to be a real challenge for policymakers.
A significant escalation of the Ukraine crisis was not priced into markets coming into 2022, resulting in risk-off moves over the month. The Euro Stoxx ends the February down 3.23%, while the S&P is down 3.14%. From a macro perspective, surging oil prices (Brent +11.5% over February, ending the month at $98) raise stagflation risks, adding to central banks’ dilemma.
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-2.pdfJanuary, 2022
In January, The Federal Open Market Committee (FOMC) inferred that it will soon be appropriate to increase the policy rate, teeing up a potential rate hike in March. The Chair avoided questions on the path of policy beyond lift-off but reiterated that the economy is much stronger than during previous hiking cycles. On the pace of future hikes, the Chair also avoided questions on whether they could hike more frequently than every quarter or in magnitudes larger than 25 basis points, Instead, he highlighted the uncertainty in forecasting the rates path and said they’ll have to be agile in navigating crosscurrents and risks.
The FOMC also confirmed that asset purchases will conclude in early March and confirmed that balance sheet reduction will begin after rate hikes commence. The Committee’s high-level principles for reducing the balance sheet stated changes in the target range for the federal funds rate as its primary measure for adjusting the stance of monetary policy due to strong inflation prints and labor market progress. Chair Powell pointed to quits, wages and the vacancies to unemployed ratio as indicators of strength with the belief that labor force participation can improve, but with some time. As for the reduction, the principles refer to ‘significantly’ reducing the size of the Federal Reserve’s balance sheet. In contrast to the principles in the prior cycle, the Committee did not rule out selling MBS. The Chair said that discussions would likely continue for two meetings to iron out the details.
File: https://commentary.quantreports.net/wp-content/uploads/2022/02/ishares-esg-global-bond-index-fund-update-en-au-1.pdfDecember, 2021
In December, the Federal Open Market Committee (FOMC) doubled the pace of tapering; asset purchases will be reduced by $20 billion/month for treasuries and $10 billion/month for agency MBS. The FOMC prescribed the reduction for January and, at the new pace, will wrap up asset purchases in the middle of March. When wrapped up, the Chair said he doesn’t expect an extended wait time between the end of asset purchases and rate hikes. This was reflected in the December Summary of Economic Projections (SEP) and dot plot which showed that participants expect that 3 hikes will be appropriate in 2022.
All FOMC participants expect the maximum employment portion of the mandate to be met next year. However, the committee could raise rates before reaching maximum employment. The Chair referred to the balanced approach provision in the framework that addresses times when the maximum employment and price stability goals are not complementary. Under these scenarios the committee takes account of the distance from the goal and the speed at which they’re approaching it. This provision will enable them to raise rates because of high inflation, before achieving maximum employment. However, in the Chair’s opinion, they are making rapid progress towards maximum employment. The Chair sounded less confident on the pick-up in labor supply than he has previously, highlighting aging population and retirements – a demographic unlikely to re-join the labor force.
Inflation is no longer described as ‘transitory’ and the risk of more persistent, higher inflation has increased, reflected in the SEP which showed higher core and headline inflation through 2023. November Core CPI, released in December, increased 0.53% MoM, almost exactly in line with consensus average expectations for a 0.52% MoM increase, pushing the year-over-year figure to 4.58%. There were large increases in specific CPI components such as rents, owners’-equivalentrent (OER), used vehicles and airfares with broad based strength across both goods and services components. Energy prices increased 3.5% over the month and food prices increased 0.7% pushing headline CPI up 0.78% over the month, and up 6.88% year-over-year. This marks the highest level of inflation since 1982.
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