The Daily Prophet: Draghi Couldn't Have Played It Any Better

Connecting the dots in global markets.

European Central Bank President Mario Draghi seemed to achieve an almost impossible feat on Thursday: He dropped a pledge to buy more financial assets if the economy deteriorates and he didn't upset markets. In fact, his comments sent stocks and bonds higher and brought about a welcome decline in the euro.

The STOXX Europe 600 Index surged 1.05 percent, capping the biggest four-day rally since April 2017. Perhaps even more remarkable is that euro zone government bonds rose across the board, from Germany to Italy. Even Greece's bonds jumped. The Bloomberg Euro Index retreated from its highest level since late 2014, which should alleviate some concern that its strength would curb growth. So, how did Draghi do it? By emphasizing the ECB's failings. At the same time that he talked up the euro zone's strengthening economy, saying the central bank boosted its GDP estimates for this year to 2.4 percent from a prior forecast of 2.3 percent, he stressed that inflation would hover around 1.5 percent this year before dipping slightly in 2019 to 1.4 percent. The ECB's target is just under 2 percent.


To investors, that message of stronger growth and low inflation means that the central bank won't need to withdraw stimulus at a faster-than-expected rate. In other words, the Goldilocks-like environment for markets should continue. "The tweak is simply good housekeeping," Mark Chandler, the head of fixed-income research at RBC Capital Markets, wrote in a research note. "It was (no) longer needed. That said, if there is some kind of shock, there should be no doubt the ECB would respond regardless of its explicit guidance." 

WHERE DID THE BOND BEAR GO?
U.S. Treasuries rallied on Thursday along with European government debt, and suddenly it seems like very few people are talking about a bear market in bonds, or at least not to the degree that we saw just a few weeks ago. All the talk about the potential for a global trade war has provided support for haven assets such as Treasuries. After shooting up from about 2 percent in early September to as high as 2.95 percent last month, Treasury 10-year yields have eased back a bit, to 2.85 percent on Thursday. Traders see little incentive to keep pushing yields without further evidence the economy is gaining momentum or inflation is accelerating. On that front, the numbers have been coming in a bit softer, based on Citigroup's economic surprise index, which measures the data that exceed forecasts relative to those that miss. Also, more economists are talking about the potential for the higher borrowing costs that came with the jump in bond yields to start curbing growth. HSBC Holdings’ head of fixed-income research Steven Major, who correctly projected the record low in benchmark yields in 2016, wrote in an email that the Federal Reserve’s monetary tightening will increase yields on Treasury bills further and weigh on financial conditions, according to Bloomberg News' Sid Verma.


FX TRADERS WATCH HONG KONG
Recent moves in the Hong Kong dollar have riveted the currency traders, who are closely watching developments knowing that any misstep could have implications not just for one of Asia's most important economies but for the region overall. The currency weakened to a fresh three-decade low on Thursday, inching ever closer to the level at which the city will step in to defend the currency. Losses accelerated in Asian trading Thursday after Hong Kong Monetary Authority Chief Executive Norman Chan said there were no plans to sell additional debt, a move that would tighten liquidity and prop up the exchange rate, according to Bloomberg News' Justina Lee. The currency traded as weak as HK$7.8405 a dollar, and the HKMA is required to start intervening if it falls to HK$7.85. Such a move -- which would burn bearish traders and squeeze short-term interest rates -- hasn’t happened since the current trading band was introduced in May 2005. A majority of analysts surveyed  by Bloomberg News earlier this month said they had expected the HKMA to offer more debt, as it did last year. That would help slow the Hong Kong dollar’s drop because the city’s widening rate discount to the U.S. is pushing down the local currency. But such a move risks undermining a monetary system in which the HKMA isn’t supposed to target interest rates.


CONFIDENCE OR HUBRIS?
Emboldened by the lowest unemployment rate in 16 years and signs that wages may finally be starting to rise, U.S. consumers decided to ramp up their borrowing in the fourth quarter. Data released by the Federal Reserve on Thursday showed that household debt increased at a 5.2 percent annual rate in the final three months of 2017, the most since the fourth quarter of 2007 -- just before the financial crisis hit. The pace of household debt accumulation during the quarter reflects the Fed’s previously reported outsize 7.8 percent annualized rise in consumer credit, along with a 3 percent gain in mortgage borrowing, according to Bloomberg News' Katia Dmitrieva. The Fed data also show that the net worth for households and nonprofit groups rose by $2.08 trillion in the quarter to $98.7 trillion, thanks to a booming stock market and healthy increases in real estate values. Consumer sentiment rose last week to the second-highest level since 2001, as the higher take-home pay from tax cuts outweighed concerns about stock-market volatility, according to the weekly Bloomberg Consumer Comfort Index released Thursday.


CORN OUTLOOK BRIGHTENS
Agriculture products have perked up, with the Bloomberg Agriculture Spot Index rising as much as 10.7 percent since mid-January. By comparison, the broader Bloomberg Commodities Index has been little changed. The bulls got some more good news on Thursday, as the corn hoard that’s kept American grain bins full over the past several years is finally showing signs of easing, according to Bloomberg News' Alan Bjerga. Reserves in the season that ends Aug. 31 will be 2.127 billion bushels, the U.S. Department of Agriculture said in its monthly report. Exports are forecast to rise to 2.225 billion bushels, 8.5 percent more than predicted in February. On the Chicago Board of Trade, corn futures for May delivery climbed 1.2 percent to $3.9175 a bushel at 11:33 a.m. local time. The grain touched $3.9325, the highest since mid-August for the contract. After five consecutive annual losses, corn is springing back to life in 2018. Prices are up about 12 percent since the start of the year, and market participation -- as measured by open interest -- has never been higher.


TEA LEAVES
Friday is jobs day in the U.S. No, that doesn't mean there will be some nationwide jobs fair where employers and prospective employees meet and size one another up. It means the Labor Department will release its monthly employment report for February. You may recall that the January report, released on Feb. 2, sent markets in a tizzy when it showed that average hourly earnings jumped 2.9 percent from a year earlier, the biggest increase since 2009. So, will there be a repeat? It's certainly possible. The bond strategists at BMO Capital Markets note that the anecdotal evidence leading up to the jobs report shows 11 positive proxies, and one negative. To be sure, the one negative may be the most relevant -- the ISM non-manufacturing employment index, which fell to 55 from 61.6 in January. The BMO strategists also note that the wage data in the February employment report has a history of company in below forecasts, having done so in six of the eight last years.

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