Rates Spark: Eyes On The Exit

Chair Powell Stays, And The Monetary Policy Course Remains As Is

The decision by President Biden to stick with the current Chair removes uncertainty with Powell’s current term ending in February. Had there been any delay in appointing a new Chair due to a lack of political support this could have caused significant financial market nervousness, particularly if we are right and the economy is soaring, inflation is above 6% and the Fed is still stimulating the economy with QE.

The economy is soaring, inflation is above 6% and the Fed is still stimulating the economy with QE.

In consequence, there is a theme of continuity for markets that should result in minimal material impact. It does not change the likely trajectory of policy. The Fed will still taper, and will likely hike in 2022 (we think at least twice in 2H), and the rates market will remain in a state of anticipation for tighter policy and a higher rates environment generally.

The Powell Nomination Put The Focus Back On The Risk Of Earlier Tightening

Image Source:Refinitiv, ING 

Risk assets may also not be overly impacted by this outcome. Some degree of risk-on would be an understandable outcome on more of the same ahead. Any risk-off seen would be more an excuse to go in that direction, rather than a material outcome that can be linked to the continuation of Powell at the helm of the Federal Reserve.

Market rates reaction has been a tad higher, but really there is not much new here. That said, it's as good an excuse as any to test higher in rates. Not because of the outcome, but more an ongoing re-calibration to more sensible levels. The move back into the 160's bp validates this, despite the re-emerging angst on Covid story, in Europe in particular.

The ECB's Eyes Remain On The Exit

Eurozone rates were led higher as US markets reacted to the renomination of Fed Chair Powell. But in light of the resurgent pandemic across Europe, EUR rates will have become not only more sensitive to data such as the flash PMIs reported today, but also to any change in tone by the ECB.    

Villeroy insisted the ECB is "serious" about ending PEPP in March next year

For now, hopes that the deteriorating backdrop would change the ECB’s position were disappointed. While the ECB’s Villeroy said that conditions for a rate hike in 2022 were unlikely to be met, also emphasizing the sequencing of exit steps as laid out by the forward guidance, he insisted the ECB is "serious" about ending PEPP in March next year. Boosting the APP then was still a possibility, but not a necessity. Markets' disappointment showed in periphery EGB spreads widening on the back of his remarks - 10Y BTP/Bund by some 4bp.

A Fourth Covid-19 Wave Is Driving A Wedge Between Us And European Rates

Image Source:Refinitiv, ING 

That Villeroy again argued for the PEPP’s flexibility to be maintained also beyond the end of the program offered little consolation. We interpret his remark that not all decisions would necessarily have been taken already in December as referring to the TLTROs and tiering with the operations’ preferential rate conditions running out after June next year.

Today's Events And Market View

The latest resurgence of Covid-19 and the tightening restrictions across parts of Europe will ensure greater attention to today’s PMIs. They will provide first hints of how much lockdown fears are impacting business confidence. However, bear also in mind that PMIs have been on decline already since hitting a peak in July this year.

On the central bank front, we will be hearing from the ECB’s Makhlouf and de Guindos, with markets hoping for more guidance as the pandemic situation adds to the uncertainty.

In supply, the Netherlands will reopen the DSL Jan29 for €2-3bn, and the US Treasury will auction 7Y debt after 2Y and 5Y sales met soft demand yesterday.