Global Weekly: Fed and ECB going in different directions

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Bond markets have been digesting divergent central bank messages this week, while watching trade disputes slowly approach evolving into trade wars. Last week, the US Federal Reserve indicated its intention to continue hiking rates, while the European Central Bank (ECB) expanded on its guidance for very slow rate hikes that would start in an ever more distant future. ECB officials reinforced that message this week. We therefore now expect the first rate hike by the ECB to occur in December 2019 instead of September 2019.

The delay is also due to a softer outlook for growth and core inflation in Europe. As a result, Bund yields are expected to stay low for longer than we had anticipated. With most of the bond yield curve in negative territory, the moment that Bunds will finally reach levels attractive enough to consider buying has been postponed.

Italian spreads jumped higher again this week, as markets were reminded of the new government’s fiscal agenda. Local elections over the weekend confirmed the surge in the polls for the populists, especially the anti-migration party. Italian spreads are expected to keep trading mostly between 2-3%, with the risk of further spikes, as long as this government remains in charge and especially when budget policy takes centre stage.

In most emerging markets, geopolitics, country-specific developments and capital outflows continued to tighten financial conditions. Emerging-market sovereign spreads have now risen to the same level as spreads on US high-yield bonds. In case of a further widening of emerging-market spreads, we might consider this as an opportunity to expand into one or more segments of emerging-markets bonds. Sovereign and corporate bonds in hard (developed markets) currencies are obvious options, but bonds in local currencies could also be considered.

Trade war threats & higher oil prices

Stock markets were hurt this week by escalating trade tensions. The Nasdaq and Hang Seng indexes took the hardest hits from the protectionist rhetoric of the US President. In Europe, the German DAX Index, where the automobile and industrials sectors are strongly represented, also lost ground. A deepening sense of unease continued to weigh on markets in mainland China. The benchmark Shanghai index has tumbled by 20% in just five months.

The week was positive, however, for the energy sector. Oil rose to the highest prices seen in a month, as the demand by the US for Iran’s customers to halt their imports overshadowed Saudi Arabia’s promise to boost output. On Wednesday, the US reported lower-than-expected crude oil stockpiles, which drove the WTI oil price above USD 72.50, which is above the three-year high seen in May. Oil exploration companies, such as Noble, rose by almost 10%. But oil users, such as cruise line operators, see rising fuel costs. Cruise line operator Carnival trimmed its outlook, as the higher oil price and currency movements are hurting earnings. Carnival lost 7%.

On Tuesday, GE announced its long-awaited great unwinding. The company has decided to focus on three segments: aviation, power, and renewable energy. It will spin off its health care business (just as Siemens did earlier), and separate its oil business. GE said it will maintain its current dividend until the spinoff is complete. The stock jumped by almost 8% on the news.