Global daily insight 13 september 2016

Daily Insight

Group Economics Macro & Financial Markets Research

13 September 2016

Punch-addicted markets Macro & Financial Markets Research team Tel: +31 20 343 5616 nick.kounis@nl.abnamro.com

Global Markets: Worries about the removal of the punch bowl – Investor risk sentiment continued to deteriorate on Monday, with equity markets globally a sea of red and global government bond yields generally been on the up (see also below). The former Chair of the Fed William McChesney Martin, Jr. famously remarked that the job of the central banks was ‘to take away the punch bowl just as the party gets going’ and markets are worried that they are about to do just that right now. There are concerns that the Fed will soon be hiking interest rates, and that other central banks – such as the ECB and BoJ – might be reaching the limits of asset purchase programmes. The ECB’s failure to extend QE last week added fuel to these concerns. While these concerns are to some extent justified, our sense is that policy will remain relatively accommodative. Although the Fed will probably hike rates in December, we think that further tightening will be exceedingly slow. We expect the ECB to extend QE before year end (see below), while the BoJ will further expand its QQE programme this month. Of course, it is fair to say that QE programmes are having diminishing returns and both central banks have become more cautious in stepping up stimulus over recent months. See also our note Macro Weekly – Has the ECB lost faith in QE? (Nick Kounis) Fed view: Still a divided Fed - Ahead of 21 September FOMC meeting, Fed Governor Brainard, a voting member, maintained her dovish tone. She continued to urge ‘prudence’ in the removal of policy accommodation. She suggested that this approach has proven effective in the past months. If she had changed her tone to a bit more hawkish, this would have suggested the Fed was preparing for a September hike. Other recent interventions from Fed policymakers suggest that some of her concerns are shared, but they are a bit more positive about the balance of risks. Atlanta Fed’s President Dennis Lockhart, a hawkish non-voting member, said on Monday that the strengthening economy meant that there would be a ‘serious discussion’ in the next meeting. In this same line, Boston Fed President Eric Rosengren, a more centrist voting member, mentioned that a failure to continue on ‘the path of gradual removal of accommodation could shorten rather than lengthen the duration of the recovery’. He mentioned that the US economy was ‘fairly resilient despite headwinds from abroad’ and signaled that there was a ‘reasonable case' to pursue a gradual normalization of monetary policy. These were the last interventions before the FOMC meeting next week. Given the ongoing divisions in the FOMC, we continue to expect the next rate hike in December (Maritza Cabezas).

ECB view: Officials provide some colour to Draghi’s remarks – Remarks by Governing Council members over recent days have provided some detail to ECB President Draghi’s statement last week. The ECB of course failed to change monetary policy, but Mr Draghi hinted that it would before long, with committees tasked to look at options (see our note ECB Watch – ECB disappoints, but will act soon). The Governor of the Latvian central bank, Ilmars Rimsevics, said that ‘the committee will work until December, and then we will know if the composition will be modified’. He clarified that the options it is looking into include moving away from purchases according to the capital key, changing issuer limits for bond purchases, and removing the deposit-rate floor rule. We think the last two options are the more likely. Meanwhile, Lithuania’s central bank governor Vitas Vasiliauskas said that

Insights.abnamro.nl/en

Bloomberg: ABNM

2

Daily Insight - Punch-addicted markets - 13 September 2016

inflation will move towards the price stability goal of 2017 and 2018 and ‘will get very close’ to the target in 2019. The latter suggests that the ECB will likely extend the time horizon for QE, given it is taking longer to reach the target. However, it is less likely to step up the pace of purchases, given it expects inflation to eventually get there. We think the ECB will expand the duration of its QE programme from March 2017 currently to September 2017. Given Mr Rimsevics’ remarks, this now looks more likely in December rather than next month. (Nick Kounis) Global government bonds: rout continues for second day - Yields on global government bonds continued to rise following last week’s underwhelming ECB policy meeting and concerns of an earlier than expected Fed rate hike. The yield on 10 year German sovereign bonds rose further into positive territory, while last week that same yield touched -10bps (0.10%). At the same time, the yield on 10 year US Treasuries climbed to almost 1.70% after having reached 1.54% last week. In addition, the German government bond curve steepened (the difference between 5 and 10 year maturing bonds), again reflecting the general disappointment in the market. The sudden swings bring back memories of the vicious Bund tantrum of last year, in which the yield on 10 year German bonds rose by around 70bps within a couple of weeks. However, we think that this analogy is misplaced and that the recent moves will be short lived. We expect that the market will eventually come to the view that the ECB will stay committed to its mandate and that it will announce an extension and tweaks to its QE programme before the end of the year. These decisions will weigh yet again on yields of government bonds and will cause bond curves to flatten.

We therefore stick to our end of year forecast of -20bps for the yield on 10 year German bonds. However, the recent moves could hint to a period of heightened volatility as uncertainty on the general direction of the ECB and other central banks will likely remain in the near term. (Kim Liu)

DISCLAIMER ABN AMRO Bank Gustav Mahlerlaan 10 (visiting address) P.O. Box 283 1000 EA Amsterdam The Netherlands This document has been prepared by ABN AMRO. It is solely intended to provide financial and general information on economics. The information in this document is strictly proprietary and is being supplied to you solely for your information. It may not (in whole or in part) be reproduced, distributed or passed to a third party or used for any other purposes than stated above. This document is informative in nature and does not constitute an offer of securities to the public, nor a solicitation to make such an offer.

No reliance may be placed for any purposes whatsoever on the information, opinions, forecasts and assumptions contained in th e document or on its completeness, accuracy or fairness. No representation or warranty, express or implied, is given by or on behalf of ABN AMRO, or any of its directors, officers, agents, affiliates, group companies, or employees as to the accuracy or completeness of the information contained in this document and no liability is accepted for any loss, arising, directly or indirectly, from any use of such information. The views and opinions expressed herein may be subject to change at any given time and ABN AMRO is under no obligation to update the information contained in this document after the date thereof.

Before investing in any product of ABN AMRO Bank N.V., you should obtain information on various financial and other risks and any possible restrictions that you and your investments activities may encounter under applicable laws and regulations. If, after reading this document, you consider investing in a product, you are a dvised to discuss such an investment with your relationship manager or personal advisor and check whether the relevant product –considering the risks involved- is appropriate within your investment activities. The value of your investments may fluctuate. Past performance is no guarantee for future returns. ABN AMRO reserves the right to make amendments to this material. © Copyright 2016 ABN AMRO Bank N.V. and affiliated companies ("ABN AMRO

3

Daily Insight - Punch-addicted markets - 13 September 2016