Rates Spark: Let’s Talk About Rate Cuts

Central banks bringing forward the date of the first hike also see markets contemplating the prospect of subsequent cuts, something also visible on the US curve. The tone on European rates markets should remain understandably cautious, good omicron news or not.

Caution Prevails In Europe

Good news relating to the severity of omicron should be taken with a pinch of salt. Faster transmission could offset the benefits of milder symptoms. More broadly, it is still early days, even if markets are starting to display omicron fatigue. As much as market reaction to adverse events can be violent, their attention span isn’t very long. What’s more, omicron or not, the reality of Europe’s Covid-19 wave means risk sentiment is likely to struggle to take off this side of the Atlantic.

Low EUR Rates Are Storing Up Problems For Later If Inflation Fails To Fall In A Hurry

Image Source: Refinitiv, ING 

Markets are starting to display omicron fatigue

This is particularly true in rates markets where year-end effects increase the gravitational pull lower for bond yields. European central banks have also shown signs of caution when it comes to taking the next tightening steps. Even if this only proves a short delay, the near-term impact is supportive of low bond yields in the coming weeks.

The FT was the latest to relay anonymous ECB members voicing their reluctance to make long-term commitments at next week's meeting. This is not the first such report and we would caution against focusing too much on the near term dovish reaction. The more important message in our view is the growing sense of unease about inflation overshoot, and the read-across from Fed policy to other central banks in Europe. Worse still, one of our fears at the onset of the omicron scare was that central banks would view it as another factor likely to push prices up. We have since heard officials from the Fed, BoE, and ECB voicing such concerns.

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