US stocks declined as global bond yields rose after the ECB prepared markets for a rate hiking cycle and on growing nervousness that tomorrow’s CPI data will clearly show inflation isn’t near peaking.
The outlook is darkening and that might be how the argument for the Fed to pause in September begins. Warning signs about the economy are emerging as weekly jobless claims are starting to rise, China’s COVID situation will prove troublesome for supply chains over the next couple of quarters, and as inflationary pressures broaden and show no sign of easing. It seems reductions in global growth forecasts will become a steady theme over the next few months and that should complicate how much more tightening we see from central banks.
It would be best for the Fed to continue with its rate hiking cycle despite the initial weakness we see with the economy, but that might not be how it all unfolds. The Fed is doomed either way; they either raise rates aggressively into year-end and send this economy to a recession next year or they fail to tackle stagflation risks by flip-flopping on tightening of monetary policy.
ECB signals 25bps hike in July
Fragmentation prevented the ECB from making this a hawkish meeting. The ECB monetary statement and updated forecasts have outlined a gradual tightening path. No major surprises as the ECB announced QE will end in July and begin raising rates in July. The bank signaled a 25bps increase in July, with September potentially having a larger one if inflation projections exceed the 2.0% target.
The dovish part of this ECB meeting was that market fragmentation seems like it could lead to some support for the southern periphery. Yields on the 10-year Italian bond surged 22.3 basis points to 3.589%, Spain’s 10-year yield jumped 13.8bps to 2.611%, while the German bund yield only rose 7.7bps to 1.426%.
The ECB also hid in a footnote that their projections were after the Eurostat’s flash estimate, but if it were accounted for, it would suggest an inflation rate of 7.1% in 2022. Inflation is hot and it will remain hot and rate hike expectations should continue to climb after each monthly inflation report.
The euro could not keep the initial gains from growing expectations of a super-sized September rate hike as peripheral spreads widened dramatically. It seems FX traders widely expect the southern periphery to once again be the problem child for the ECB and will ultimately force the bank to deploy either new or new instruments to tackle fragmentation.
Bitcoin continues to hover around the USD 30,000 level as crypto traders await a key inflation report that could trigger sway market expectations as to what the Fed may do in September. Much of the attention for crypto traders fell on the SEC’s investigation of TerraUSD stablecoin. Bloomberg reported that the SEC is trying to find out if Terraform Labs broke rules for securities and investment products.
This has been a messy several weeks for crypto filled with lawsuits, scams, and fading interest as prices have remained anchored. Crypto needs a few fresh catalysts to break out of these doldrums and that could take a while.
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