Morning Note /

EMEA Daily: Risk appetite fades as Fed minutes point to aggressive tightening

  • NBP hikes rates by more than expected in response to mounting price pressures

  • EM currencies' resilience being tested by hawkish Fed

  • Russian CDS rates signal artificial default is imminent

Danny Greeff
Danny Greeff

Financial Market Analyst

Edmond Muzinda
Edmond Muzinda

Financial Market Analyst

ETM Analytics
7 April 2022
Published byETM Analytics

Risk appetite fades as Fed minutes point to aggressive monetary tightening

Talking Points: NBP hikes rates by more than expected in response to mounting price pressures 

South Africa: The minutes of the Fed's March policy meeting confirmed that the hawkish sentiment put forward by Governor Brainard earlier this week is widespread amongst policymakers. They signalled that the US central bank would announce the start of aggressive quantitative tightening at next month's policy meeting, with this set to accompany a 50bp rate hike. This is consistent with pricing in the OIS market, where a 50bp rate hike is now fully baked in. This rhetoric points to a period of sustained USD strength. Accordingly, market volatility may rise, and the ZAR's resilience will likely continue to be tested. However, options market positioning suggests limited concern over a ZAR selloff in the near term, with three-month 25-Delta risk reversals remaining anchored relative to historical norms (that is to say the cost of hedging against a ZAR blowout in the options market is still relatively low). This is unsurprising given the ZAR's recent show of resilience, which has been supported by elevated commodity prices, the high real yields SA offers, and improving optics on the local reform front.

Turkey: Given the rampant inflation, which is eroding the real income of households and driving the cost of living higher, pressure continues to mount on the Turkish government to help ease this burden. Against this backdrop, senior officials of Turkey's ruling party Justice and Development Party (AKP), are discussing whether price caps should be introduced on up to 20 items, including food staples and other basic necessities. The proposal has been put forward as part of the ongoing discussions within the party on how to bring inflation under control. However, it is worth noting that the price ceiling on those goods would cost the government as they have to offer subsidies to retailers for the goods the ceiling applies to. Price caps also tend to merely shift spending elsewhere, driving up other prices and limiting the impact they have on controlling inflation.

Russia: Ukraine is seeking ruinous sanctions against Russia despite the cost to the EU in order to starve Russia of the funds to fight the war. However, there are indications that the efforts so far are already generating a severe impact. Beyond the hit the Russian economy is taking, inflationary pressures are also mounting. Weekly CPI stats showed Russian consumer prices rose 0.99% in the seven days ending 1 April, with prices of food and household notably high. Overall, prices are up around 10% so far this year, which will weigh heavily on household budgets and exacerbate pressure on the economy.

Hungary: Hungarian Prime Minister Viktor Orban offered Russian President Vladimir Putin to host ceasefire negotiations with Ukraine in Budapest. Another round of talks will be welcomed by the markets after talks held at the start of the week saw some progress being made, which spurred some optimism for peace. Orban noted that the next negotiations will be held with the participation of German Chancellor Olaf Scholz and French president Emmanuel Macron. PM Orban also told the media that Hungary is prepared to pay Russia in rubles for gas imports. This would make Hungary the first EU member to break ranks and make such a move. The statement comes after Russia warned that EU members will need to set up ruble accounts to pay for Russian gas imports as part of Moscow's retaliation for the sanctions imposed by Europe.

Poland: The National Bank of Poland lifted the policy rate by more than expected yesterday while hiking rates for the seventh consecutive meeting as policymakers continued their fight to combat inflation that surged to double-digit growth in March. Specifically, the monetary policy council raised the base rate by 100bps to 4.5%, beating consensus expectations of a 50bps hike anticipated by economists surveyed by Bloomberg. This marks the highest rate since November 2012 as the central bank tries to stem inflation pressures amid the soaring energy and food prices being fanned by the Russia-Ukraine war. The NBP repeated that it will do whatever it takes to curb inflation, signalling no indications that it is ready to pause raising interest rates

Czech Republic: The batch of economic data released yesterday was worse than expected, indicating that more economic risks lie ahead. The Czech Republic's foreign trade swung into a deficit of CZK4.4bn in February, following a revised surplus of CZK8.2bn in the month prior. The cause was a persistent decline in automotive vehicle exports. Fortunately, goods exports increased during the month, rising 7% y/y, preventing a larger deficit. Imports, on the other hand, increased by 16% y/y, driven mainly by the higher oil, gas and base metal prices. Only in March will the effects of the Ukraine war become clear. Businesses continue to face a shortage of parts, and production materials are becoming more expensive. This issue will likely persist, and the trade balance may remain in a deficit in the coming months.

Forex: EM currencies' resilience being tested by hawkish Fed 

South Africa: The USD-ZAR is once again testing the 14.7000 mark, having twice failed to sustain temporary breaks through that level yesterday. Technical indicators such as the stochastic, RSI, and MACD suggest momentum for the pair is to the topside, and further drift in that direction could be expected today. Broader risk appetite also remains weak at the moment, with equities and EM currencies generally on the defensive overnight.

Turkey: The USD-TRY continued to trade sideways for the sixth successive session yesterday as the CBRT continued to intervene in the market to manage volatility. Notwithstanding the steady performance, bearish bets in the options market on the pair remain elevated compared to levels seen before the Ukraine war as traders hedge against further TRY losses. The premium of contracts to sell the TRY over those to buy it in the next month sits at 9.98% versus 5.93%, seen at the onset of the geopolitical crisis. Investors are also taking into account the poor underlying local macroeconomic fundamentals and US Fed policy normalisation.

Russia: The combination of energy exports and capital controls mean the RUB continues to trade near pre-war levels between 80.00/$ and 85.00/$, with Western sanctions seemingly having a limited impact on the currency in this context. Having said that, prevailing RUB pricing does not reflect true uncertainty and concern in the market, with risks tilted towards depreciation once capital control measures are eventually eased. For now, however, the currency will likely continue to consolidate in the near term.

Hungary: The EUR-HUF bulls remained in control yesterday, extending the winning streak to three consecutive sessions as investors weighed on the decision by the European Commission to trigger the new conditionality mechanism against Hungary for backtracking on the rule of law. The cross advanced by more than 1.00% to reach 379.28, its best performance in almost a month. Although the rally has not persisted in the early morning as the cross is trading relatively flat, the bias remains skewed to the upside. Lingering geopolitical risks and hawkish US Fed sapping sentiment are factors that could provide the topside impetus.

Poland: The EUR-PLN traded relatively flat by the close of yesterday. Intraday, the cross pulled back by 1.95% and reached 4.6523, its lowest level in more than a month after the NBP hiked the base rate more than expected. However, the post-MPC meeting losses were short-lived as the cross recovered those losses. Ahead of the euro open, the EUR-PLN is trading on the front foot, gaining about 0.29% at the time of writing. The topside bias comes on the back of the risk-off sentiment due to the hawkish FOMC minutes, which triggered a further rotation towards the dollar.   

Czech Republic: The EUR-CZK gained 0.4% yesterday, marking its biggest daily advance since March 18 amid a widespread rally across the region due to a risk-averse trading environment. Additionally, weak industrial and trade data also impacted the local currency. During intraday, the pair pierced above the 24.500 mark before closing just below it at 24.473. In pre-market trade this morning, the pair is whipsawing around yesterday's closing levels. The underlying bias for the pair has shifted to bullishness, with EUR-CZK stochastics issuing a crossover buy signal yesterday.

Fixed Income: Russian CDS rates signal artificial default is imminent   

South Africa: SAGBs are under some pressure as FRA rates pick up. The market is likely to interpret the Fed's gait as a risk to higher yields as raising interest rates aggressively next month will form upside risks to yielding markets generally. However, the curve is already among the steepest globally, with over 220bp priced in the R2048-R186 spread. Underperformance of the R186 has been emerging this week and will be an interesting development to follow. This could mark potential entry points for those who view the roll-down characteristics of the bond favourably.

Turkey: Turkish USD-denominated bonds came under some strong selling pressure on Wednesday, with yields rising across the curve through the session. Moves were more pronounced at the long end of the curve, leading to a bear-steepening thereof on the day. This was consistent with the market's broader trend, which has seen the Turkish USD yield curve steepened sharply over the last four or so months. The bias also remains to the topside going forward, as global financing conditions look set to continue tightening in the weeks and months ahead.

Russia: Russia edged closer to a potential default on its USD-denominated debt yesterday, when it set aside RUB to pay holders of international bonds that need to be repaid in dollars and said it would continue to do so as long as its FX reserves are blocked by sanctions. Any such default would be artificial, as Russia has all necessary resources to service its debts. Nevertheless, CDS rates have risen sharply to reflect the risk of default, which is now being priced at around 100%.

Hungary: During a switch auction held on Wednesday, the AKK sold HUF10bn of bonds maturing in 2034 and 2041, exchanging for the ones expiring in 2024. Looking at individual tenors, interest for a switch to the 2041/A bonds for 2024/B bonds was most notable after primary dealers' bids arrived at HUF10.7bn, prompting the AKK to sell HUF 5.0bn. The agency also sold HUF5.0bn for 2034/A, accepting 2024/B bonds as payment. Primary dealers bid to switch HUF8.9bn of the securities.

Poland: The Polish yield curve shifted higher yesterday on the back risk-off sentiment spurred by the hawkish Fed comments from US Fed Governor Lael Brainard and the aggressive rate hike by the NBP. Yields rose across the curve, with a more pronounced increase registered at the front end of the curve. The 2yr yield was higher by more than 17bps at 5.86%, followed by the 5yr yield, which rose more than 15bps and the 10yr, which was up more than 12bp. The flattening bias in the Polish yield curve is likely to remain entrenched as more rate hikes are still on the cards, given the risk to the inflation outlook that is still tilted to the upside.  

Czech Republic: Czech bonds were not spared from the rise in global bond yields, with local bond yields rising between 8bps to 10bps. Hawkish Fed talk was the main culprit as the battle between inflation and policy normalisation is still the market's main focus. The ongoing war in Ukraine only makes the situation more difficult to navigate. The local yield curve remains inverted, and the degree of its inversion is becoming more pronounced, with the 10v2 bond yield spread dipping below the -100bps mark to a record low of negative 107bps. Given the current backdrop, the yield curve will remain inverted for some.