Monthly survey data show that economic activity growth remains robust at the beginning of 2018.....
Monthly survey data show that economic activity growth remains robust at the beginning of 2018.....
However, the more mature phase of the cycle also implies greater volatility on the markets: after the forex market, rate curves are also proving more volatile.
The FOMC meeting consolidates expectations for a Fed rate hike.
In Europe, despite the strong euro, the inflation trend is causing increasing concern.
Political risk is no longer in vogue: the opening of the election campaign in Italy has not prevented a further reduction of the risk premium.
- The global economy is still in good health in the opening weeks of 2018. January PMI surveys outlined a marginal drop in the global manufacturing index, from 54.5 to 54.4, but this a level almost one standard deviation higher than the long-term average. These PMI levels are compatible with a slight acceleration in global economic growth compared to 2017. At present, the only shadows concern China, which seems to be experiencing a new modest deceleration phase, as currently signalled by the trend of new domestic and foreign orders. Almost all economic data releases in the US over the past few days were very strong, with the sole exception of auto sales, down again in January. European data were less brilliant but confirm that growth remains robust.
- Stronger and more widespread economic growth implies higher market volatility, destabilising inflation expectations and the prospected rate path after a generally quiet 2017. The currency markets led the way in recording increased volatility, but yield curves are following the same path.
- In the United States, the market is now almost fully pricing three policy rate hikes by the end of 2018, and almost four by January 2019. The rate curve in dollars moved violently, with the 10Y UST yield surging from 2.41% to 2.82% in the past month. In this case, the movement was due more to the inflation component than to the real rate component. The January FOMC meeting was not the cause of the movement: the Committee left rates unchanged, expects the evolution of economic conditions to “warrant further gradual increases in the federal funds rate”, using an almost identical wording compared to the previous statement, and totally ignored the trend of the dollar and the fiscal measures approved by Congress. However, the FOMC expects inflation to rise this year, and made no mention of the past downtrend. Expectations for a rate hike in March were and remain solid.
- In Europe, in addition to the strong exchange rate, the risk of an acceleration in inflation, driven by economic growth, is starting to cause concern. This week’s data outlined an increase in the overall rate from 1.1 to 1.2% after three stable months. The rise is marginal and could be reabsorbed in the coming months.
However, it comes at a time when the real economy is growing at a lively pace in the euro area, while energy prices are on the rise, and could therefore aid in the next few months the passing of the self-sustainability test considered necessary by the ECB president Draghi to proceed with the monetary policy reversal.
The European Commission’s monthly survey shows that capacity utilisation has increased in both the manufacturing and services sectors to levels that are now close to the long-term highs, and expectations for higher prices are widespread in all business sectors sensitive to domestic demand.
Although the strong euro will cause some disruption, the ECB staff’s inflation forecasts could therefore be revised up already in March. This will probably not have a great impact on the normalisation process, still focused on terminating the APP programme by the end of the year, but it could make the timing of the first interest rate hike in 2019 more uncertain.
- Political risk may have played a role in weakening the dollar, but is not having any effect for the time being on the European rate curves. In 2017, the French elections were decisive first in undermining and then in supporting confidence in the euro and in the Eurozone markets.
Subsequently, the elections in Austria went almost unnoticed, despite the inclusion of the eurosceptic FPÖ in the government coalition. Now, the runup to the Italian political elections on 4 March, which in theory could be a source of uncertainty, is being accompanied by a narrowing of the 10Y BTP-Bund spread, from 160pbs at the beginning of the year to 123bps. And this is taking place despite the reduction of purchases under the APP, which is calling the market to absorb positive net issues for the first time since 2014, and despite the proposals for an easing of fiscal discipline included in the campaign manifestos of almost all political parties. The significant upward shift of the German rate curve is resulting in a tightening of the spread for now.
This may also be aided by the modest share of Italian public debt held abroad (around 30%), the conviction that electoral promises will not be effectively implemented, and the perception that in the near term none of the potential election outcomes will cause the trend of the deficit and debt trend to stray much from the planned path. Also of help is the disappearance of the euro as an election campaign theme. However, confidence in the public accounts consolidation process must not be undermined for progress to continue.
The week’s market movers
In the Eurozone, focus will be on December industrial output data. We expect a temporary correction in Germany (-0.3%m/m) and Spain (-1.0% m/m), after a solid trend in November. France and Italy should show modest improvements (+0.1% m/m and +0.3% m/m respectively). Retail sales in the euro area are estimated to have corrected (-1.4% m/m), partly eroding the progress made in November.
This week, only a few noteworthy releases are lined up in the United States. The January non-manufacturing ISM should record a modest rise in line with widespread growth, whereas the trade balance deficit is forecast to widen in December, confirming the negative contribution of net exports to 4Q growth.
The financial analysts who prepared this report, and whose names and roles appear on the first page, certify that: (1) The views expressed on companies mentioned herein accurately reflect independent, fair and balanced personal views; (2) No direct or indirect compensation has been or will be received in exchange for any views expressed. Specific disclosures: The analysts who prepared this report do not receive bonuses, salaries, or any other form of compensation that is based upon specific investment banking transactions.
This research has been prepared by Intesa Sanpaolo S.p.A. and distributed by Banca IMI S.p.A. Milan, Banca IMI SpA-London Branch (a member of the London Stock Exchange) and Banca IMI Securities Corp (a member of the NYSE and NASD). Intesa Sanpaolo S.p.A. accepts full responsibility for the contents of this report. Please also note that Intesa Sanpaolo S.p.A. reserves the right to issue this document to its own clients. Banca IMI S.p.A. and Intesa Sanpaolo S.p.A. are both part of the Gruppo Intesa Sanpaolo. Intesa Sanpaolo S.p.A. and Banca IMI S.p.A. are both authorised by the Banca d'Italia, are both regulated by the Financial Services Authority in the conduct of designated investment business in the UK and by the SEC for the conduct of US business.
Opinions and estimates in this research are as at the date of this material and are subject to change without notice to the recipient. Information and opinions have been obtained from sources believed to be reliable, but no representation or warranty is made as to their accuracy or correctness. Past performance is not a guarantee of future results. The investments and strategies discussed in this research may not be suitable for all investors. If you are in any doubt you should consult your investment advisor.
This report has been prepared solely for information purposes and is not intended as an offer or solicitation with respect to the purchase or sale of any financial products. It should not be regarded as a substitute for the exercise of the recipient’s own judgement.
No Intesa Sanpaolo S.p.A. or Banca IMI S.p.A. entities accept any liability whatsoever for any direct, consequential or indirect loss arising from any use of material contained in this report.
This document may only be reproduced or published together with the name of Intesa Sanpaolo S.p.A. and Banca IMI S.p.A.. Intesa Sanpaolo S.p.A. and Banca IMI S.p.A. have in place a Joint Conflicts Management Policy for managing effectively the conflicts of interest which might affect the impartiality of all investment research which is held out, or where it is reasonable for the user to rely on the research, as being an impartial assessment of the value or prospects of its subject matter. A copy of this Policy is available to the recipient of this research upon making a written request to the Compliance Officer, Intesa Sanpaolo S.p.A., 90 Queen Street, London EC4N 1SA.
Intesa Sanpaolo S.p.A. has formalised a set of principles and procedures for dealing with conflicts of interest (“Research Policy”). The Research Policy is clearly explained in the relevant section of Banca IMI’s web site (www.bancaimi.com).
Member companies of the Intesa Sanpaolo Group, or their directors and/or representatives and/or employees and/or members of their households, may have a long or short position in any securities mentioned at any time, and may make a purchase and/or sale, or offer to make a purchase and/or sale, of any of the securities from time to time in the open market or otherwise. Intesa Sanpaolo S.p.A. issues and circulates research to Qualified Institutional Investors in the USA only through Banca IMI Securities Corp., 245 Park Avenue, 35th floor, 10167 New York, NY,USA, Tel: (1) 212 326 1230. Residents in Italy: This document is intended for distribution only to professional investors as defined in art.31, Consob Regulation no. 11522 of 1.07.1998 either as a printed document and/or in electronic form. Person and residents in the UK: This document is not for distribution in the United Kingdom to persons who would be defined as private customers under rules of the FSA.
US persons: This document is intended for distribution in the United States only to Qualified Institutional Investors as defined in Rule 144a of the Securities Act of 1933. US Customers wishing to effect a transaction should do so only by contacting a representative at Banca IMI Securities Corp. in the US (see contact details above).
Trading Ideas are based on the market’s expectations, investors’ positioning and technical, quantitative or qualitative aspects. They take into account the key macro and market events and to what extent they have already been discounted in yields and/or market spreads. They are also based on events which are expected to affect the market trend in terms of yields and/or spreads in the short-medium term. The Trading Ideas may refer to both cash and derivative instruments and indicate a precise target or yield range or a yield spread between different market curves or different maturities on the same curve. The relative valuations may be in terms of yield, asset swap spreads or benchmark spreads.
Coverage Policy And Frequency Of Research Reports
Intesa Sanpaolo S.p.A. trading ideas are made in both a very short time horizon (the current day or subsequent days) or in a horizon ranging from one week to three months, in conjunction with any exceptional event that affects the issuer’s operations. In the case of a short note, we advise investors to refer to the most recent report published by Intesa Sanpaolo S.p.A’s Research Department for a full analysis of valuation methodology, earnings assumptions and risks. Research is available on IMI’s web site (www.bancaimi.com) or by contacting your sales representative.