positioning

Rates Spark: Raising the hawkishness bar A hawkish pause from the Fed, but the higher dots add to its degree. Market rates have reason to rise more. The bar for the ECB to surprise to the hawkish side today and move longer rates sits high, with the market apparently well-priced already.   Market rates have enough here to push higher, and the front end will feel tighter even without a hike The Fed has latched on to the theme that has dominated the market mindset in the past number of weeks, namely that the US economy continues to refuse to lie down. This has helped risk assets, as by implication default risks that would typically evolve from a recession have been kept at bay, helping credit spreads to tighten and equity markets to perform. There has also been an easing in measures of system risk, especially as immediate banking sector angst has been downsized. This overall combination has allowed market rates to ease higher, driven by higher real rates, which in turn are a sign of strength.   Initial comments from the Fed do not negate these themes, and in fact push for more of the same. While this is more reflective of the new “dots” than anything else, it in any case pushes in the direction for higher market rates ahead. We continue to position for the 10yr to head to the 4% area, and it would not look wrong if it were to drift above for a period, at least until the illusive macro slowdown is a tad more clear-cut than now. We still expect the 10yr to be much closer to 3% by the end of the year but for now we see yields rising higher first.   There was no particular mention of the changing liquidity circumstances. Currently there is amble liquidity, with bank reserves on the rise (up from US$3trn to US$3.4trn), and still over US$2trn going back to the Fed on the reverse repo facility. The US Treasury has only slowly rebuilt its cash balance at the Fed since the debt ceiling was suspended, so the impact of less prior bills issuance and more bank support has dominated the ongoing quantitative tightening programme. Ahead, some US$500bn off liquidity will get drained out of the system as the Treasury rebuilds its balance through net bills issuance. We expect from that a combination of lower bank reserves and lower cash on the reverse repo facility.   This will make it feel like there has been some tightening in conditions, even if not in levels (as the Fed has not hiked).   Still hawkish, but harder to regain traction further out

PLN: Record strong zloty day before NBP decision The two-day meeting of the National Bank of Poland starts today in Poland. While we can expect headlines tomorrow, the Polish zloty is once again clamouring for attention. EUR/PLN touched its lowest levels since early 2021 yesterday. We remain positive on the zloty, however, as we estimate that positioning must be extremely long at the moment –most significantly in the CEE region. Moreover, we can expect a dovish report from the NBP tomorrow. The market has priced in a lot of rate cuts for this year over the past week without significant damage to the zloty. Thus, the current account surplus, strong FDI flows and the dampening of volatility through MinFin operations in the market will continue to support the zloty, but we expect further gains to be at a slower pace.

Tighter oil market over the second half of 2023 Fundamentals are not dictating oil prices at the moment. Instead, macro uncertainty and concerns over the China recovery are proving an obstacle to oil prices moving higher. In addition, expectations for a more hawkish US Fed will certainly not be helping risk appetite. Speculators have reduced their positioning in the market considerably in recent months. ICE Brent has seen the managed money net long fall from a year-to-date high of around 300k lots in February to around 160k lots in the last reporting week. This has predominantly been driven by longs liquidating, although there has also been a fair number of fresh shorts entering the market. We still expect global oil demand to grow by around 1.9MMbbls/d in 2023, and while this may appear aggressive in the current environment, it is more modest than some other forecasts – for example, the International Energy Agency forecasts demand to grow by 2.4MMbbls/d this year. Whilst we believe that our demand estimates are relatively modest, there are still clear risks to this view. The bulk of demand growth this year (more than 50%) is expected to be driven by China. So far this year, indicators for Chinese oil demand have been positive, as the economy has reopened. However, the concern is whether China will be able to keep this momentum going through the year. The risk is that the growth we have seen in domestic travel starts to wane as the effects of 'revenge' spending ease. Supply-side dynamics continue to provide a floor to the market. OPEC+ continues to cut and we have seen Saudi Arabia announce further voluntary supply cuts through the summer. Recently-announced cuts from Saudi Arabia, Russia and Algeria amount to a reduction of a little over 1.5MMbbls/d in supply over August 2023. Although, there are doubts over whether the 500Mbbls/d of cuts recently announced by Russia will be followed. It doesn’t appear as though Russia has stuck to a previous cut of 500Mbbls/d when you consider that Russian seaborne crude oil exports have been strong for most of the year. Drilling activity in the US has also slowed this year with the number of active oil rigs in the US falling from a year-to-date peak of 623 in mid-January to 545 recently, which is the lowest level since April 2022. While supply growth is still expected from the US, and output is set to hit record levels, the growth will be much more modest than in previous years. For 2023, US oil output is expected to grow in the region of 600-700Mbbls/d, while for 2024 growth is expected to be less than 200Mbbls/d. Higher costs, a tight labour market and an uncertain outlook all contribute to this more tepid growth. While the broader theme we have seen from US producers in recent years is to also be more disciplined when it comes to capital spending. We have revised lower our oil forecasts for the latter part of the year. A more hawkish Federal Reserve, limited speculative appetite (given the uncertain outlook), robust Russian supply and rising Iranian supply all suggest that the market will not trade as high as initially expected. We still forecast that the market will be in deficit over the second half of the year and so still expect the market to trade higher from current levels. We forecast ICE Brent to average US$89/bbl over 2H23.  

The ADP report on employment in the private sector, published a day before the non-farm payroll data release, was so shocking that it instantly raised expectations for the labor market as a whole, leading to rapid repositioning on Friday before the data release. However, the non-farm payroll figures were significantly weaker than expected, with 209,000 new jobs created (225,000 expected), and data for the previous two months were revised downwards by 110,000. Employment growth is slowing, but the pace remains high. As for wage growth, the figures were an unpleasant surprise for the Federal Reserve. In June, wages increased again by 0.4% instead of the expected 0.3%, and annual growth rates remained at 4.4%, which is higher than the 4.2% forecast. Steady wage growth does not allow inflation expectations to fall, the growth of real rates does not allow the Federal Reserve to start lowering the rate this year.       The U.S. inflation index, which will be published on Wednesday, is the main event of the week and the last important data before the Fed meeting at the end of July. The markets expect an 89% probability of a quarter-point rate hike. Furthermore, the probability of another increase in November has already exceeded 30%, and the first cut is now expected only in May of next year. The U.S. dollar fell after the data release and ended the week weaker than all G10 currencies. The growth of real rates in the current conditions makes a recession in the U.S. almost inevitable.   EUR/USD The Sentix Economic Index for the eurozone has fallen for the third time in a row to -22.5 points, a low since November 2022, and expectations also remain depressed. The eurozone economy has fallen into a recession as of early July. The situation in Germany is even more depressing – the index has fallen to -28.5 points, and the possibility of improvement is ephemeral.     The ZEW index will be published on Tuesday, and the forecast for it is also negative, with a decrease from -10 points to -10.2 points expected in July. On Thursday, the European Commission will present its forecasts. Bloomberg expects that industrial production in the eurozone fell in May from 0.2% y/y to -1.1% y/y, a sharp decline that characterizes the entire eurozone economy as negative and tending to further contraction.   Under the current conditions, the European Central Bank intends to continue raising rates, and even plans to shorten the reinvestment period of the PEPP program. If this step is implemented, a debt crisis, which will put strong bearish pressure on the euro, is inevitable in the face of capital outflows to the U.S. and an expanding recession.   The net long position on the euro has hardly changed over the reporting week and amounts to just over 20 billion dollars, positioning is bullish, there is no trend. However, the calculated price is still below the long-term average and is trending downward.     The euro attempted to strengthen on Friday in light of the news, but it was unable to rise beyond the borders of the technical figure "flag", let alone higher than the local high of 1.1012. We assume that the corrective growth has ended, and from the current levels, the euro will go down, the target is the lower boundary of the "flag" at 1.0730/50. GBP/USD Updated data on the UK labor market will be published on Tuesday. It is expected that the growth of average earnings including bonuses increased in May from 6.5% to 6.8%, and if the data comes out as expected, inflation expectations will inevitably rise. As will the Bank of England's peak rate forecasts. The NIESR Institute expects that further rate increases could trigger a recession.   The cost of credit is rising, and an increase in the volume of bad debts is inevitable in an economic downturn. Inflation did not decrease in May, contrary to expectations, and remained at 8.7%, even though energy prices significantly decreased. Food inflation on an annual basis reached 18.3%, and core inflation at 7.1% is at its highest since 1992. The labor force is decreasing, and if this trend is confirmed on Tuesday, it will almost inevitably result in increased competition for staff, which will mean, among other things, the continuation of wage growth. The Bank of England has already raised the rate to 5%, with forecasts implying two more increases. What does the current situation mean for the pound?   If the economy can keep from sliding into a recession, then in conditions of rising nominal rates, the yield spread will encourage players to buy assets, leading to increased demand for the pound and its strengthening. However, if signs of recession intensify, which could be clear as soon as Thursday when GDP, industrial production, and trade balance data for May will be published, the pound will react with a decrease, despite high rate expectations. After impressive growth two weeks ago, pound futures have stalled at achieved levels, a weekly decrease of just over 100 million has no significant impact on positioning, which remains bullish.  

FX Daily: Dollar drops on the disinflation trade The downside surprise in US June CPI inflation has seen the dollar drop to new lows for the year. Over recent months we had been speculating that clear signs of US disinflation - and a weaker dollar - may emerge in 3Q23 and yesterday's moves could well be the start of an important market adjustment. Look out for US PPI and US initial claims today.   USD: The start of something It has been a long time coming, but yesterday's surprisingly soft US June CPI numbers may be the first sign this year that sharp Fed rate hikes are finally starting to bite. As our US economist, James Knightley, notes, there were welcome declines in all of the key categories of inflation. He does not think this will prevent another 25bp Fed rate hike at the 26 July meeting, but it will add weight to the view that the July hike may indeed be the last in the cycle. The data could also herald a change in the Fed narrative from frustration that inflation has not fallen as quickly as expected to a more welcoming approach to recent data releases.  We had discussed the potential FX market impact of a soft US CPI print in yesterday's FX Daily and the soft CPI has driven more benign pricing around the world - i.e. bullish steepening of yield curves, higher equities, narrower credit spreads, and a weaker dollar. FX price action has all the hallmarks of a position unwind, where those currencies sold on a bearish/hard landing scenario (e.g. Norway's krone, Sweden's krona, and to a lesser degree some other commodity currencies) have now made a very strong comeback. Indeed, both the NOK and SEK had been extremely undervalued in our medium-term valuation models and are now finding room to breathe. For the big dollar trend, this may be the start of the long-awaited cyclical decline. There are parallels to the dollar sell-off last November and December (when it fell 8% in two months), but the difference now is; i) positioning, where speculators are not as heavily long dollars as they were last October, and ii) the China and European growth stories do not seem due as much of a re-rating as they enjoyed last November. That said, we prefer to run with the dollar bearish story for the time being, where DXY should press big psychological support at 100.00. The next target would be 99.00 on a breakout. For today, look out for US June PPI and the weekly initial claims number. A further decline in PPI and a rise in claims could see dollar losses extend.

Traders push back RBA rate hike bets until November WTI and Brent crude implied volatility falls to lowest since 2020 Turkey unloads significant portion of gold holdings The Australian dollar tumbled after the RBA kept rates on hold again and signaled they might be done tightening.  Given most economists expected a hike, aussie-dollar was ripe for a plunge.  US dollar strength also supported the decline after the Treasury increased their net borrowing estimate.     Oil The oil price rally is ready for a break as US stocks soften and the dollar firms up.  August is off to a slow start for energy traders as the outlook on demand could face rising prices.  The oil market will likely remain tight even if the oil giants, like BP start delivering large price increases.  Oil remains one of the most attractive trades and buyers will likely emerge on every dip.   Gold Gold prices are not seeing safe-haven flows as US equities tumble, because the US dollar is catching a bid as yields rise higher.  Gold is going to need to see Treasury yields come down, but that might not happen until the market fully prices all the longer-dated issuance that is coming from the Treasury.  Gold’s moment in the sun is coming, but first markets need to see the bond market selloff end. If bearish momentum remains in place, gold could find major support at the $1940 level. Until we get beyond Apple earnings and the NFP report, positioning might be limited.  

The net short position in USD grew by $490 million to -$16.272 billion over the reporting week after a strong correction a week earlier. The decline is largely related to long positions on the euro, and in terms of other major currencies, the notable trend is selling across all significant commodity currencies (Canadian, Australian, New Zealand dollars, and also the Mexican peso). The yen and franc are slightly doing better, i.e., there is demand for safe-haven currencies and a sell-off in commodity currencies. Since long positions in gold have decreased by $4.5 billion, we can expect increasing demand for the US dollar.     PMIs for the eurozone, the UK, and the US will be published on Wednesday, which can significantly influence the rate forecasts of the European Central Bank, the Bank of England, and the Federal Reserve. Last week, we witnessed a clear uptrend in bond yields, suggesting increased demand for risk amid more upbeat economic reports. At the same time, we see a sharp deterioration in China's economy, which, on the contrary, points to slowing demand. This dilemma may be resolved after the release of the PMIs, so we can expect increased volatility.   EUR/USD The final estimate confirmed that the euro area annual inflation rate was 5.3% in July 2023, with core inflation unchanged at 5.5%. Since there are no seasonal factors that could explain the price increase at the moment, it would be best to assume the most obvious explanation - price growth is supported by broad price pressures in the growing services sector. Stubborn inflation supports market expectations that the ECB will raise rates in September, and this increase is already reflected in current prices. The strong labor market is also in favor of a rate hike. After a sharp decrease a week earlier, the net long position in the euro grew by $1.275 billion, putting the bearish trend into question. The settlement price is below the long-term average, giving grounds to expect a continuation of the euro's decline, but the momentum has noticeably weakened.   A week earlier, we assumed that the bearish trend would continue. Indeed, the euro consistently passed two support levels, but did not reach the 1.0830 level. The resistance at 1.0960, which the euro can reach if a correction develops, is still considered in the long term. We assume that the trend remains bearish, and the 1.0830 level will be tested in the short term. GBP/USD Inflation in July fell from 7.9% to 6.8%. This is mostly due to the fall in the marginal price of OFGEM (Office of Gas and Electricity Markets) from 2500 pounds to 2074. Without this decline, inflation would have still fallen, but much less - to 7.3%. Despite the sharp decline, inflation remains at a very high level, and further falls in the marginal price of energy carriers are unlikely. The NIESR Institute suggests that, among the possible scenarios for future inflation behavior, we should choose between "very high", assuming an average annual inflation of around 5% over 12 months, and "high persistence", which is equivalent to an annual level of 7.4%. Needless to say, both scenarios imply inflation higher than in the US, so the likelihood of a higher BoE rate remains, leading to a yield spread in favor of the pound. These considerations do not allow the pound to fall and support it against the dollar, while against most major currencies, the dollar continues to grow. After three weeks of decline, the long position in GBP grew by $302 million to $4.049 billion. Positioning is bullish, the price is still below the long-term average, but, as in the case of the euro, an upward reversal is emerging.       In the previous review, we assumed that the pound would continue to decline, but UK inflation pressure remains stubborn, which changed the rate forecast and supported the pound. A correction may develop, and the nearest resistance level is 1.2813. If the pound goes higher, the long-term forecast will be revised. At the same time, we still consider the bearish trend, and the chances of restoring growth are high, with the nearest target being the support area of 1.2590/2620.  

EUR: ECB cannot ignore PMIs Any forward-looking economic indicator is, at this stage, quite important for the euro and the European Central Bank. The bank is officially fully focused on inflation, but evidence of a slowdown in key parts of the euro area has mounted and is now too blatant to be overlooked. Core inflation dynamics will still remain the main input for the ECB – but should we see more indications from today’s PMIs that the eurozone outlook is deteriorating, then policymakers might see the window for one last hike closing rapidly and opt for a September hike rather than delaying it until the fourth quarter.  The focus will also be on Germany’s PMIs. Manufacturing is expected to have flattened in August at 38.8, and services to have declined modestly to 51.5. Overall, the eurozone numbers are not expected to show any further material deterioration. Later today, the euro area consumer confidence will also be published. EUR/USD came under pressure yesterday and unless we receive some encouraging news from PMIs, or a drop in the dollar (e.g., caused by an equity rally after Nvidia results), we suspect markets may marginally prefer to stay bearish on the pair as for some pre-Jackson Hole positioning.   EUR/USD is testing the early-July 1.0834 low this morning, a break lower puts the next support at 1.0800 (200-day MA).

FX Daily: No turkey for dollar bears The Thanksgiving holiday means thin volumes and no US data releases today. We expect some stabilisation in EUR/USD after strong jobless claims fuelled the dollar rebound. Still, eurozone PMIs might trigger some fresh position-squaring events. In Sweden, we are slightly in favour of a Riksbank hike today, but it is a very close call given krona strength.   USD: Stronger into the Thanksgiving holiday The dollar rose for a second consecutive session yesterday, this time helped by a surprise drop in initial jobless claims to 209k from 233k: an indication of good labour market resilience ahead of the 8 December payrolls data, which will be key in setting the tone for FX into Christmas. University of Michigan inflation expectations were revised higher, although durable goods orders came in softer than expected in October, which probably limited the scope of the market impact of jobless claims. Today, FX flows will be subdued due to the Thanksgiving holiday. Equity and bond markets are closed, and there are no data releases in the US. Part of the rebound in the dollar observed over the past two sessions (especially on Tuesday) may well be related to some profit-taking on risk-on trades and more defensive positioning ahead of Thanksgiving. We think DXY can find some stabilisation around 104.00 into the weekend amid thinner trading volumes and a lack of market-moving data releases in the US.  

EUR: PMI test for positioning Today’s PMI surveys will be a new opportunity for markets to gauge whether eurozone growth sentiment has indeed bottomed out. Consensus expectations suggest this is the case; while staying in contractionary territory, the general view is that we should see a modest rebound in both the manufacturing and services indices. From an FX perspective, the reaction to the November PMIs will tell us how much position-squaring effects are still playing a role in EUR/USD. Should a surprise in either direction be followed by an exacerbated move in EUR/USD despite thinner trading on Thanksgiving, then we would conclude positioning imbalances persist. We think, however, that some flattening around 1.0900 is more likely. We have seen some recovery in EUR/USD overnight, and it appears that the surprise win of far-right candidate Geert Wilders in the Dutch elections has not had a noticeable market impact so far. EUR/GBP rebounded modestly yesterday after the UK’s Autumn Statement, where Chancellor Jeremy Hunt announced some widely expected cuts to personal and business taxes. The implications for sterling should – in general – be positive as the tax cuts suggest a better growth outlook and potentially stickier inflation. However, it felt like the move in GBP already happened into the announcement, and there was some “buy the rumour, sell the fact” effect causing a softening of the sterling momentum.

Borrowing needs will fall this year, meaning a lower supply of LCY bonds, but there is still a long way to go given the slow fiscal consolidation. Central and Eastern Europe should remain more active in the FX market than pre-Covid, while a busy January and the broadening of funding sources offer flexibility for the rest of the year Borrowing needs this year will be down on last year in the whole CEE region, with the exception of Poland. The decline is due to both lower budget deficits and redemptions. In contrast, in Poland, both have increased year-on-year. Overall, the supply of local currency bonds should fall but remain well above pre-Covid levels. Given lower yields, this supply may prove more difficult to place in the market compared to last year, which saw strong market demand despite record supply. This time is different, and we expect financial markets to be tougher and punish more budget overruns and additional issuance. Local currency issuance: Improvement but still a long way to go From a positioning perspective, we find the Romanian government bond (ROMGBs) market to be overcrowded after the significant inflows last year. On the other hand, the significantly underweight Polish government bond (POLGBs) market should help cover the historically record borrowing needs. Czech government bonds (CZGBs) and Hungarian government bonds (HGBs) remain somewhere in between with steady foreign inflows into the market. On the sovereign ratings side, all the obvious changes happened last year and should stabilise this year with only some adjustments in outlooks in the pipeline, unless a more significant shock arrives. On the local currency supply side, we see a clear improvement from last year in the Czech Republic, as it was a bright spot in the CEE region with credible public finance consolidation. In addition, we see it as the only country in the region with positive risks of a lower supply of CZGBs than the Ministry of Finance indicates. Hungary has also made great progress here, of course, with the traditional broad diversification of funding sources that should keep the pressure off the HGB market in the event of an overshoot of the projected deficit. In contrast, we see only a relatively small improvement in Romania, where the supply of ROMGBs will fall only a little. The supply of Polish government bonds, meanwhile, was already at a record-high last year and is set to rise a little more this year. In addition, the use of additional sources to avoid flooding the local currency bond market will increase significantly, which we believe represents the biggest challenge for the bond market in the CEE region this year.   FX issuance: Fast start and diverse funding sources offer flexibility On the FX side, CEE sovereigns are set to remain active in the Eurobond primary market in 2024 and beyond, with the overall trend driven by recent external shocks from Covid and surging energy prices, along with structural factors such as the energy transition in Europe. A key theme that unites regular issuers Romania, Poland, and Hungary is the diversification of funding sources, with more consistent interest in the US dollar, as well as alternative currencies such as the Japanese yen and Chinese yuan, alongside the more traditional euro for the region. The growing green bond market is also an area of focus, with Hungary leading the way, and Romania set to follow this year. At the same time, 2024 should see some divergence, with Poland taking the lead in the region for Eurobond issuance and set to be one of the largest EM sovereign issuers globally this year. Hungary should see a slight reduction in Eurobond supply compared to recent years, with its strategy of diversifying funding sources and front-loading supply providing plenty of flexibility for the rest of the year. Romania should retain its position as a regular issuer, although net supply will be lower this year, while catching up with Poland and Hungary in terms of diverse funding sources via green issuance and alternative currencies. A strong start to the year, with almost $15bn in issuance for CEE in January so far, should mean less pressure on the region to issue later in the year if market conditions turn.