10 Mar 2019

Dovish Central Banks Drive Currencies & Bond Yields

USD ended the week higher last week against major world currencies despite falling sharply on Friday after the release of mixed labor market report, which showed a surprising slump in job gains for February.

author dp
Team INRBonds
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USD ended the week higher last week against major world currencies despite falling sharply on Friday after the release of mixed labor market report, which showed a surprising slump in job gains for February. The fall in Euro and British Pound also helped USD throughout the week to post gains. USD Index (DXY), which tracks the movement of the USD against six major currencies, rose by 0.81% on a week on week basis and is at a level of 97.31. British pound depreciated by 1.42% against the USD last week and Euro depreciated by 1.14% against the USD.

The slump in U.S. nonfarm payroll was so surprising that White House economic advisor Larry Kudlow dismissed it as “very fluky” and said no one should pay attention to it. The numbers point a mixed picture of the health of the U.S. economy, as the unemployment rate dropped more than expected and wage inflation accelerated beyond expectations.

Nonfarm payrolls rose by just 20,000 compared to January reading of 311,000 and against the expectations for a 181,000 gain. The unemployment rate fell to 3.8%, while average hourly earnings rose 3.4% year over year in February compared to 3.1% reading in January and against the expectation of 3.3%.

USD started the week on a higher note amid reports that the U.S. and China were likely to sign a trade deal by the end of the month. However, many market participants believed that a much-anticipated trade deal between the U.S. and China could fail to deliver significant gains to global growth. On Tuesday, China cuts its economic growth to 6.0%-6.5% for 2019 down from 6.6% growth reported last year, which was already the lowest in decades.

USD traded higher on Thursday amid a slump in the euro after the European Central Bank sounded the alarm on euro-area growth and pushed back its expectations for a rate hike to at least the end of the year in its recently concluded policy meeting. ECB slashed its growth target for 2019 to 1.1% from 1.7%.

In the press conference that followed the ECB’s unchanged decision on rates, president Mario Draghi delivered a downbeat assessment of the euro area economy, saying a “sizeable moderation” in growth would continue into the current year.

British pound was under pressure last week amid fears that the Brexit deadlock will continue after the EU rejected the U.K.’s latest proposals on the Irish backstop. Britain’s Attorney General Geoffrey Cox in Brussels presented the proposals on Tuesday, but they were rejected. The EU has given Cox until Friday to submit revised proposals. Further, on Friday Prime Minister Theresa May said in a speech that no one knows what would happen if her Brexit deal is not passed through Parliament.

The INR continued to trade higher against USD last week largely due to strong inflows from foreign investors and due to easing of geopolitical tensions. However, INR came under pressure on Friday despite drop in global crude prices and weakness in USD. INR appreciated by 1.08% against the USD last week and appreciated by 2.58% against the euro.

Weekly Global Bond Market Analysis

The European Central Bank  reacted to the threat of recession across the eurozone with a promise to keep interest rates at historically low levels for at least until the rest of the year and delivered a fresh round of monetary stimulus in the form of LTRO (Long Term Refinance Operations) in a bid to shore up the weakening economy.

ECB President Mario Draghi said the euro-zone economy will now expand only 1.1% this year, a drop of 0.6 prtcentage points from forecasts just three months ago. The outlook for the next 12 months had deteriorated after a series of shocks to the global economy that were likely to persist through 2019, he said. Draghi highlighted the cut in the forecasts for China’s growth and the uncertainty over Brexit as being among several factors dragging down growth in the eurozone. The outlook for GDP growth this year has been revised down substantially after significant slowdowns in Italy and Germany. Draghi said the ECB governing council judged the prospects of a recession to be very low after moves by governments to bolster their economies this year.

Eurozone bond yields fell sharply after the ECB decision, Germany 10-year benchmark bond yields fell by 11 bps, Portugal 10-year benchmark bond yields fell by 14 bps, Italy 10-year benchmark bond yields fell by 24 bps, Spain 10-year benchmark bond yields fell by 15 bps. However, Greece 10-year benchmark bond yields rose by 13 bps

US 10-year benchmark bond yields fell by 10 bps to 2.64%, tracking the movements of its European counterpart.  Lael Brainard, member of the Fed Board of Governors, said the anemic global economy warranted further caution and a softer path for interest rates. On the economic data front, unemployment benefits in early March fell slightly, keeping so-called jobless claims near the lowest levels in a half-century.  Jobless claims, fell by 3,000 to 223,000 in the seven days ended 2nd March 2019. February job additions fell sharply month on month and well below market expectations.

Japan 10-year benchmark bond yields rose by 2 bps, A Reuter poll suggests BoJ is expected to hold its stimulus policy steady at its two-day policy meet next week.  Earlier this month, BOJ Governor Haruhiko Kuroda said the central bank would debate and communicate at an appropriate time, an exit plan from its ultra-loose monetary policy, but BOJ did not have a specific exit strategy because it would take significant time to achieve its 2% inflation target.

Emerging economies 10-year benchmark bond yields were mixed last week.

China 10-year benchmark bond yields fell by 4 bps after weak trade data, which pointed to a slowdown in the economy. Dollar-denominated exports plunged 20.7% for the month of February from a year ago, Dollar-denominated imports fell 5.2% in February from a year ago.

Brazil 10-year benchmark bond yields fell by 7 bps, Brazil GDP expanded 0.1% in the fourth quarter, down from a revised 0.5% in the three months through September, The result was the slowest quarterly pace since the third quarter of 2017 but was in line with market estimates. In the full year of 2018, GDP rose 1.1%, the same as the prior year.

Australia 10-year benchmark bond yields fell by 13 bps. South Africa 10-year benchmark bond yields fell by 8 bps,  Indonesia 10-year benchmark bond yields rose by 11 bps.

US benchmark Junk bond yields fell by 8 bps to 6.61%, Euro benchmark Junk bond yields fell by 32 bps to 3.68%.