German 10-year yields are seen marginally higher on a week-over-week basis at -.30%, holding however near 3-month lows. While pulling back on our overall call for a move back into positive ground before the fall or even year end, we expect increasing downside stickiness at and inside current levels. Upside yield support is however anticipated near -.15% as a likely roadblock in front of a fully-disinverted 0.00% for the balance of the year. In credit, 10-year investment grade spreads were little changed at +88 bps on the week, holding to the relatively tight 2021 range of approximately +80 bps on the downside and +95 bps on the upside. At the low end of the credit spectrum however, 10-year BB spreads widened out materially to +275 bps. The DAX stock market index retreated towards the 15330 level in the second halt of last week, but has since powered its way back to current levels near 15780. As noted in recent weeks however, the index faces a logjam of upside resistance in the 15800 to 16000 area, and we are dubious this can be cleared out any time soon. The summer months are normally very quiet in Europe, and so too in terms of ECB policy expectations with investors pretty much resigned to the Central Bank staying the course in action and tone until at least the September 9 meeting.
From the economic calendar in Europe this week, the highlights include final inflation revisions for Germany, France, Spain, Italy & the EZ, and from the UK a number of inflation releases, and employment. On the Government supply front, we have German 2-year Schatzs, Italian 3s, 7s & 30s, Dutch 30s & EU 20s on Tuesday, German 10s on Wednesday, and French 3s & 5s, and Spanish 3s, 5s & 10s on Thursday.
Global inflation and inflation expectations remains a pivotal driver of ECB and Fed policy, and as such all eyes are on today’s US CPI report for direction. The “t” word “transitory” is very much on the minds of investors, even if taken in far too binary a context. Earlier in the spring when US Treasury and German bond yields were spiking higher, it was all about the market trading against the Fed and ECB’s rhetoric about inflation being completely transitory, that it would simply “go away” once base effects and supply chain disruptions cleared. Now, even as the Fed in particular has shifted its stance somewhat in acknowledgement of the stronger inflation data, the more forward-looking market has gone the other way, throttling back materially on its own expectations for prices. We are then moving towards, as they say, a more “middle ground” on what transitory actually means, with a consensus developing that some but not all components of inflation will indeed prove transitory. Today’s Cleveland Fed report on inflation, that comes out the same day as CPI, will be interesting in what it’s median and 16% trimmed mean measures say about true “core” inflation, more so than the CPI’s own core aggregate.
US Treasuries have bled back over the past few trading sessions, giving up recent gains on an overall narrative of peaking or soon-to-be peaking economic growth, reinforced by Covid-19 delta variant concerns, and fueled by domestic bank and international buying. 10-year yields reached an intraday low of 1.27% on July 8, but have since retreated +10 bps to current levels near 1.37%. Growth-sensitive real yields had led the way lower, with higher breakevens as inflation expectations proxies as an offset, as per 10-year TIPS market pricing. 10-year A and BBB credit spreads are seen marginally wider at +84 and +121 bps respectively since the beginning of the month, holding however near recently achieved cycle lows. Given how the Fed is at least starting to talk about pulling back on its overall bond purchase program, this is not as yet being reflected in any meaningful backup in credit spreads from near cycle lows.
The highlight for the week in the US is Tuesday’s CPI report for June, as the market braces for annual increases of 4.9% in the headline, versus the previous month’s 5.0%, and 4.0% in core, versus the previous 3.8%. For the balance of the week, we get PPI on Wednesday, the Empire State and Philly Fed reports, import prices & industrial Production on Thursday, and retail sales, TICS capital flows, business inventories & Michigan Sentiment on Friday. From the Fed, we get the Beige Book and hear from a number of voting members, including Chairperson Powell. On the supply front, we already saw $58 bln in new 3 year and $38 billion on 10s on Monday, which is followed by Tuesday’s $24 billion 30-year Treasury auction, and next week’s 20 year & 10-year TIPS announcements on Thursday. The Bank of Canada holds its policy meeting this week as well.
