Rates Spark: EUR rates cannot follow a dovish US
The key takeaway from the source commentary is that Eurozone rate dynamics are increasingly decoupling from U.S. trends, particularly as Eurozone inflation remains stubbornly high amidst rising energy prices. Per the full note from ing-think, while U.S. rates have become dovish due to easing inflation metrics, the ECB's stance is influenced more by the spike in oil prices, which recently drove 2-year euro swap rates close to 3%. This divergence complicates the outlook for EUR rates and highlights the critical role of energy markets in shaping Eurozone monetary policy, suggesting a potential delay in any dovish action from the ECB until Eurozone inflation shows clearer signs of moderation.
What the desk is arguing
The desk interprets the current Euro rate landscape as distinctly separated from U.S. dovish sentiment, primarily driven by domestic factors within the Eurozone. The commentary from ing-think emphasizes that while oil prices soar, leading to a new high for 2-year euro swap rates, Eurozone inflation lags behind and will require more time before any dovish pivots by the ECB can be foreseen.
Recent data reveals that Brent crude reached nearly $87 per barrel, a situation that has significantly impacted the Euro rates. This has caused a decoupling effect, wherein the sharp dovish shifts in U.S. rates have not registered in the Eurozone's 2-year swap rates, which remains resilient in response to domestic inflation concerns tied to rising energy costs.
Given this context, the risk remains that the market might underestimate the time necessary for Eurozone inflation to respond to these external pressures, leading to persistent hawkish positioning from market participants and potential volatility in EUR rates.
Where it sits in our coverage
Our internal consensus target for EUR/USD is currently set at 1.075, with a range between 1.04 and 1.12. Key references include: - jpmorgan: 1.10 (Mar26) - bofa: 1.04 (Mar26)
This perspective aligns somewhat with jpmorgan, which anticipates upward movement to 1.10, and diverges significantly from bofa, expecting a drop to 1.04. This places our desk's view near the upper bound of the consensus range, reflecting the expectation of sustained pressures on Euro rates due to inflationary dynamics.
How other firms see it
Amid this backdrop, aligned firms like jpmorgan advocate a bullish outlook for EUR, whereas bofa holds a more bearish view on the currency. This split highlights a significant difference in outlook on the potential for EUR to reflect U.S. dovish trends.
Monitoring energy prices is crucial, as fluctuations in oil and gas prices will have direct impacts on ECB decision-making and by extension the EUR/USD trajectory. The interplay between the eurozone inflation rates and the energy market is an emerging narrative to watch closely, given its implications for future monetary policy adjustments.
How firms align with this view
Aligned with the desk view
Contrary positioning
Key takeaways
- 01Eurozone rates are decoupling from dovish U.S. trends.
- 02Rising oil prices are a primary driver of current Eurozone inflation pressures.
- 03Market participants may need to re-evaluate ECB dovish expectations based on energy market dynamics.
- 04The 2-year euro swap rate nearing 3% reflects significant inflation concerns.
Market implications
Traders should closely monitor Brent crude levels, especially around the $87 mark, as continued upward momentum could reinforce bullish sentiment in euro swap rates. Any significant movement in U.S. inflation data can also have an indirect impact on Eurozone rate expectations.
Risks to this view
A sharper-than-expected decline in oil prices could destabilize current euro swap rates, leading to a recalibration of expectations for ECB tightening. Additionally, more positive Eurozone inflation data could force a reassessment of the hawkish stance in the near term, thereby shifting market sentiment.
Articles Rates Spark: EUR rates cannot follow a dovish US Published 07:50 Rates Spark Share X LinkedIn E-mail Copy link Share X LinkedIn E-mail Copy link Download Euro rate dynamics remain separated from the US, which is looking more at domestic factors, while oil and gas are primarily driving ECB pricing. Eurozone inflation may take longer to turn, so while both 2y USD and EUR rates look bullish, the US leg could come down first Michiel Tukker and Benjamin Schroeder The rise in Brent oil prices resulted in the 2y euro swap rate approaching 3%, the highest level since the start of the Middle East conflict Euro rates will need more time to follow a dovish US Euro rates continue to do their own thing and especially the front end seems relatively isolated from US dynamics. The sharp dovish move in US rates on the back of benign inflation numbers was barely noticeable for the 2y euro swap rate.
Oil is clearly the main driver and therefore Brent reaching as high as US$87 per barrel is a more important variable to watch. At these prices, the 2y swap rate almost hit 3%, which marks the highest level since the start of the conflict. Also, the eurozone inflation data will be pivotal in challenging the hawkish market positioning, but we may have to be patient.
July’s figures are still weeks away and even then, those numbers will not be enough to comfort markets about second-round risks. Especially with oil prices surging again, the full pass-through of higher energy prices will remain difficult to estimate. An added complexity is the rise in natural gas prices, which are now at the highest levels since March.
Meanwhile, European gas reserves still seem relatively low and will have to be filled before winter starts approaching. All this uncertainty means markets’ European Central Bank pricing can continue to diverge from the Fed’s. The momentum in US inflation should be downwards, whereas for Europe the peak might not be in sight yet, especially if energy prices continue to drift higher again.
So, while we are bullish on both 2y USD and EUR rates, the US leg might find itself coming down earlier. Wednesday’s events and market view While Europe looks to geopolitics and energy prices, the US looks more towards domestic drivers. Following a cooler-than-anticipated CPI release, markets will now watch the producer prices for June as well as the second day of Fed Chair Warsh’s testimony to Congress.
Other Fed speakers of the day include Williams, Cook and Musalem. The Fed will also release its Beige Book. The eurozone releases industrial production data for May.
From the ECB, Panetta and Nagel will be speaking. In primary markets, Germany taps three bonds in the 30y area for a total of €3bn. Rates Daily Content Disclaimer This publication has been prepared by ING solely for information purposes irrespective of a particular user's means, financial situation or investment objectives.
The information does not constitute investment recommendation, and nor is it investment, legal or tax advice or an offer or solicitation to purchase or sell any financial instrument. Read more Share X LinkedIn E-mail Copy link Share X LinkedIn E-mail Copy link Download Authors Michiel Tukker Senior UK & Eurozone Rates Strategist Michiel Tukker is a Senior UK & Eurozone Rates Strategist based in London. Before ING, he worked as a quantitative economist for the Dutch central bank, at BlackRock in its Financial Markets… Benjamin Schroeder Senior Rates Strategist Benjamin Schroeder is a senior rates strategist at ING in Amsterdam.
Before joining ING in 2016, he worked in fixed income research at Dresdner Kleinwort and Commerzbank in Frankfurt, Germany.… In this article Euro rates will need more time to follow a dovish US Wednesday’s events and market view
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