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ECONOMIC DATA ANALYSIS - YIELDS DRIFT HIGHER AS US DATA TAKE CENTRE STAGE
ANALYSIS FRIDAY 4 JANUARY 2014
DRIFT HIGHER AS US DATA TAKE CENTRE STAGE
• US and UK 10-yr government bond
yields break above 3%
• FOMC minutes and US employment
report watched for clues on pace of further tapering
• Policy debates facing ECB and MPC
rise above 3%... As
market participants return for the first full week of the new year, their focus
will quickly turn to the policy outlook - especially in the US, where the Fed’s
surprise announcement to ‘taper’ last month continues to dominate sentiment.
Since the FOMC meeting, bond yields have drifted higher, partly in response to
expectations of a strong Q4, but also as market participants have attempted to
second guess the speed at which the FOMC will scale back its policy stimulus.
Earlier this week, US 10-yr treasury yields closed above 3% for the first time
since July 2011 - setting the tone, perhaps, for 2014.
releases to dominate…
The coming week is dominated by US releases, the most important of which are
the minutes to last month’s FOMC meeting (Weds) and the December employment report
(Fri). With Chairman Bernanke having hinted that tapering is likely to be
maintained at a similar pace at subsequent FOMC meetings (i.e. by $10bn a
month), the markets will read the minutes for further insight. Having also
played down the prospect of an early rise in the Fed funds rate, the markets
will also watch for any further detail on forward guidance. We suspect the reason
the Fed decided not to move the unemployment threshold or introduce an
inflation threshold at last month’s meeting was because the FOMC could not
reach a consensus on either.
unemployment rate to tick up...
The labour market remains key to future Fed policy decisions. After two months
of circa 200k payrolls, we expect the December outturn to remain around this
level once again. We are mindful, however, of upside risks, with seasonals
having boosted December outturns in recent years. Despite the growth in
employment, the unemployment rate is forecast to nudge up from 7.0% to 7.1% due
to a rise in the participation rate. Other US data include the
non-manufacturing ISM (Mon), factory orders (Mon) and trade data (Tues).
debates in Europe to diverge further... In Europe, the focus will also be on monetary policy, with
the MPC and ECB due to hold their regular monthly meetings. Although we expect
no change from either, the policy debate for both is likely to be very
different. In the UK, the strength of the recovery and labour market have
raised the risk of an early rise in interest rates. Since the
MPC announced forward guidance in
August, the unemployment rate has dropped from 7.7% to 7.4%, and there is an
outside chance that the 7.0% threshold could now be reached in the coming months.
Nevertheless, with the MPC concerned about the strength of sterling and the
consumer sector still facing headwinds - early indications suggest Christmas
sales were mixed, at best - we believe the Committee is more likely to move the
forward guidance goalposts if unemployment continues to fall. Over the coming
week, however, the data are unlikely to allay concerns that interest rates
could start to rise by early 2015.
area inflation to weaken...
For the ECB, the debate centres on the case for more, not less, policy
stimulus. Having precipitated a surprise interest rate cut in November, all
eyes will be on the latest euro area ‘flash’ CPI reading (Tues), ahead of
Thursday’s ECB decision. Although the consensus is for the HICP to remain at
0.9% in December, we look for it to drop to 0.8%, pulled down by euro strength
and favourable commodity price base effects. Although we do not expect the ECB
to immediately change policy, ECB President Draghi may well refer to conditions
that would justify future stimulus. Particular attention is likely to be paid
to the possibility of another LTRO, especially as the residual maturity of the outstanding
3-yr LTROs drops below the 1-year threshold, heightening liquidity risk in the
euro area banking sector.
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