FOMC Dot Plot Points to Milder FFR Trajectory, Keeping 10y UST Yields Under 1.75%

4 October 2016

Rates & FX Markets Monthly Review

FOMC Dot Plot Points to Milder FFR Trajectory, Keeping 10y UST Yields Under 1.75%

Highlights

¨   US & UK: The Fed once again held FFR unchanged in September as expected, alongside cut for its long term growth forecasts (1.8% vs. 2% previously) while the revised median dot plot points now to 2 rate hike in 2017 from 3 in June. On lower rate expectations, the dollar posted a monthly decline (DXY -0.58% m-o-m), 2y yield dropped by -4.3bps m-o-m while 10y UST pared early month’s loss, amid global DM sell-off, despite clear forward guidance among FOMC growing cautiousness and dissent post meeting. In the UK, 10y Gilts underperformed in September as post-referendum economic data shows little signs towards an impending slowdown, despite lingering concerns towards an eventual Brexit scenario. Despite the stabilising near-term outlook, most BoE officials are of the view for further easing this year, weighing on the GBPUSD pair (-1.26% m-o-m), and despite the weaker USD.

¨   Eurozone: ECB’s decision to remain on hold, while supported by the latest economic data, failed to reassure markets on the lack of clarity towards any future stimulus and its current constrains under the existing APP framework. However, core EGBs gained on safe haven demand caused by banking troubles and the EUR appreciated against the backdrop of a weaker USD. Elsewhere, rising yields in Portugal are a concern for rating agencies and ECB with regards to the sustainability of its debt and fiscal commitment amid unresolved banks problem, despite alleged clearer political background (10y yield closed at 3.31%; yearly average 3.10%). 

¨   Japan & Australia: The BoJ introduced a yield curve control mechanism which aims to maintain 10y yield around 0%, while committing to overshoot its inflation target despite refraining from cutting rates deeper. JPY strengthened c.2% against the USD amid tapering fears. Over to Australia, ACGB yields ticked higher m-o-m as RBA’s status quo decision may have disappointed dovish speculators, compounded by a sell-down in DM govies during mid-Sep. The AUD outperformed (+1.96% m-o-m against USD) on the better risk sentiment, following the stabilising Chinese data and OPEC’s preliminary decision to limit output.

¨   Developed AxJ: SGD underperformed despite declining MAS easing prospects; 10/20y KTB tightened to 4-year low. While expectations for MAS to ease in October declined, SGD underperformed as the weak outlook fueled lingering MAS easing prospects beyond October. Movements on SGS remained fairly volatile, with the widening SGS-UST spreads underpinned by USD strength; opportunities for investors to overweight UST vs SGS, up to the 10y tenor. Elsewhere, 10y HKGB yields climbed 14bps to 1.06% as Pan-Democrats gained sufficient seats in the LegCo to veto major constitutional changes, compounding on political risk. Turning to South Korea, the modest FY17 fiscal budget suggested room for accommodative monetary policies over the near term, but failed to dent strength on KRW, with the USDKRW pair declining by 1.23% m-o-m on the back of risk on sentiment. Yields on KTBs declined moderately, with 10/20y KTB spreads tightening to its 4-year low of 0bps, presenting opportunities to add on steepeners.

¨   Emerging AxJ: USDCNY pair stable post G20 meeting; USDIDR briefly broke below the 13,000 support. Contrary to broad expectations, USDCNY remained stable post G20 meeting, declining by 0.11% m-o-m to 6.677 on the back of stronger economic data which dulled the prospect of further PBoC easing this year. PBoC’s efforts to discourage the use of overnight cheap funding to fuel the bond rally spurred a modestly bear flattening CGB curve; PBoC also introduced CDS trading for corporate bonds to allow better pricing of fixed income instruments. Over in Thailand, the risk on environment continued to support strong inflows into Thai market, supporting a flatter ThaiGB curve m-o-m while USDTHB remained above the 34.5 handle as BoT remained active in managing the FX volatility. Elevated FY17 ThaiGB gross supply at THB550bn (unchanged from FY16), skewed towards the higher duration tenors, could potentially clip duration appetite over the medium term. In Malaysia, BNM kept its OPR unchanged at 3% as expected, with the policy statement broadly similar to July. July trade and IP data were marginally weaker, and while August CPI ticked higher to 1.5% y-o-y, the level remains low by historical standards; 3y and 10y MGS yields edged 2-5bps lower m-o-m. European banking woes hurt the MYR despite higher oil prices. The story appears to be different in Indonesia; despite a 25bps cut to the 7D RRR (currently 5.00%), dampening carry attractiveness, USDIDR declined 1.72% m-o-m and briefly broke the 13,000 psychological level after the tax amnesty program generated an additional IDR97.2trn of tax revenue, exceeding BI’s full target of c.IDR53trn which was widely seen as a reasonable target. Gsec yields tightened significantly amid the rollout of the new 10y benchmark bond, as investors appear comfortable with Dr Patel at the helm of RBI, alongside the receding CPI print (5.05% y-o-y; consensus: 5.20%) and continued OMO liquidity injections; news of renewed border conflicts with Pakistan weighed on Indian sentiment during the last week of September.