USD: Role of Fed hikes reduced to providing a buffer for the $, not a driver When the FOMC meet this week (Wed), there’s no doubt that the case for a rate hike will be less compelling than it was back in March. Economic data, especially short-term inflation dynamics, have been unnervingly soft and one could argue that this should keep a data-dependent Fed sidelined until things pick-up. Most FOMC members, however, have been quick out of the blocks to dismiss this soft patch as nothing more than a transitory phase. Still to us, this week’s move looks like an opportunistic rate hike if anything, making use of the fairly benign market conditions to take another step away from the zero-lower bound. Not everyone in the FOMC may agree, so watch out for dissenters (Kashkari, possibly Brainard). As for the economic projections, well there’s an outside chance that the growth and inflation profile could be tinkered lower – the extent to which will be telling of just how transitory some members see the current slowdown. We see downside risks to the Fed’s dot projections as well, although it’s more likely that we’ll see a more positive skew rather than any wholesale changes to the median dots. We think the Fed have been somewhat clever in constructing a dot plot that serves to fit in either a world of Trump ‘reflation’ or the status quo of secular ‘lowflation’. A hike this week means that we’ll move one step closer towards the start of the Fed’s balance sheet reduction. We’re likely to see the normalisation principles updated, though overall we don’t expect to see any surprises that could lift the $.

EUR: Quiet EZ week allows focus to shift to central bank events elsewhere In the EZ, we expect a relatively calm week following the June ECB meeting; the German ZEW index (Tue) should pick up. EUR/$ neutral around 1.12 this week.

GBP: Short-term political woes could see GBP/USD decline towards 1.25 The dust is beginning to settle following another UK election rollercoaster. Still, there remain many domestic political – as well as Brexit policy – unknowns that will continue to hangover the pound over the coming weeks: Domestic political risk premium: Theresa May has unequivocally stated her intention to stay on as Prime Minister and while there may be some underlying unrest within the Conservative Party, it seems that a leadership contest at this stage remains highly unlikely – especially as it would see another election that could risk handing the keys to Downing Street over to Jeremy Corbyn. On that note, the Labour leader hasn’t given up on forming a minority government and putting forward an alternative Queen’s speech – but again this seems unlikely. Still, we note that any confidence and supply arrangement between the Tories and DUP would be a less stable form of government than the 2010 coalition. It would risk slowing down the legislative process on key policy areas – not least the Budget and Brexit. Political uncertainty remains a headwind for GBP. ‘Hard’ Brexit risk premium: Brexit negotiations are set to begin shortly and the UK’s position remains up in the air. Calls for a ‘softer’ Brexit seem pre-mature, especially as Labour have signalled their intent to leave the single market. What we do see, however, is an economically rational Brexit – with the dial shifting towards obtaining a deal that is in best interests of the UK’s long-run economic prospects. This would be a net positive for a undervalued GBP.

EM-dedicated fund flows (up to June 7) amounted to US$2.3bn of inflows, an increase of US$500m from the week before. Hard currency funds saw nearly two-thirds of the inflows at US$1.8bn (1% AUM).Local currency funds also saw US$600m of inflows. This brings YTD inflows to US$22bn in hard currency and US$12bn in local currency. Inflows into ETFs stood at 40% of the total, up from 30% YTD. The majority of the ETF inflow is concentrated in one hard currency ETF, showing investors’ appetite for low-cost, passive investment.

China headline PPI slowed more than expected: May headline PPI came in at 5.5%Y,a tenth lower than consensus expectations, reflecting weak commodity prices. However, non-commodity PPI and core CPI in May did hold steady relative to April levels. Yesterday’s FX reserve numbers showed an increase of ~US$3bn in reserves after adjusting for valuation effects, marking the fourth consecutive month of reserve growth. While USD/CNY could move higher in the medium term, we believe that recent CNY appreciation versus USD is a tactical adjustment reflecting USD weakness, and we’ve advocated a tactically bullish stance on RMB.

Slower growth and weakening revenue have weighed on fiscal performance. The weak growth outlook also forced the government to increase nominal spending, with a consequent jump in the annual deficit to its highest since the beginning of 2010. The government measures are to expire by year-end, with likely improvement in budget metrics next year, though currently increasing the Treasury’s borrowing requirement.

According to the Ministry of Finance, the budget deficit will be c.TRY61.1bn at end- 2017 (translating into 2% of GDP, vs 1.9% already as of April, on a 12M rolling basis), implying that stimulus measures like VAT cuts on certain consumer durables, deferral of social security premiums for new hirings, etc, will not be extended. Given that most of these measures are temporary in nature, we are likely to see an improvement in fiscal performance next year, while early elections, ruled out by the government so far, remains a key risk. The debt-to-GDP ratio, on the other hand, is envisaged at c.30%, still comparing favourably with other emerging markets.

TurkStat is due to release 1Q17 GDP data next week. We expect a continuation of the recovery that started in the last quarter of 2016. Recently released indicators hint at some further acceleration in 2Q17 economic activity, with higher PMI in tandem with rising CUR. Improvement in sectoral and consumer confidence after the referendum should also contribute to the recovery.
Following the significant deterioration in recent months, with the lagged spill-overs from TRY depreciation and volatility in food prices, inflation showed a modest improvement in May, from the peak realised in April. However, we think that May inflation will not make any significant impact on CBT behaviour. The central bank is likely to refrain from early easing and keep the current tight liquidity stance for a while, until recovery in the inflation outlook becomes apparent. Apart from the CBT’s liquidity tightness, the continued supportive global environment and a REER close to the lowest level realised since the 2001 financial crisis are likely to support TRY in the near term. Significant external financing needs are likely to remain a source of weakness in the longer term.

Elevated inflation and the CBT’s consequent policy tightening have kept the yield curve inverted in recent months, while an improving domestic climate after the referendum has accelerated debt inflows since mid-April, though foreign ownership of domestic debt remained low. Following a c.150bp rally in the long end from the peaks realised at the beginning of this year, we do not expect further strong performance.

USDJPY has rebounded, but still needs to overcome the 110.20/40 resistance zone to stabilise medium-term prospects from a technical perspective. Fundamentally, chances of a USDJPY rebound have improved. James Comey’s statement released yesterday was non-controversial and today’s hearing is unlikely to go beyond what has been stated yesterday. This morning’s Q1 GDP release showing nominal GDP shrinking by 0.3%Q and the deflator declining by 0.8%Y suggests that Japan may need continued monetary accommodation support. BoJ’s Kuroda seems to be in a similar position as ECB’s Draghi in being pressed by hawkish politicians to define its exit strategy from monetary stimulus. In light of the disappointing Q1 GDP report, the BoJ is thinking how to re-calibrate its communications to acknowledge that it is thinking about how to handle a future exit from monetary stimulus, without giving the impression that this is on the agenda anytime soon.

MoF flow data. The release of April’s MoF security flow data revealing a JPY4.2trn repatriation from foreign bond markets including the US and Europe is making headlines, but is water under the bridge. It is ‘yesterday’s story’ related to French election uncertainties, fading the Trump trade, Japanese lifers’ fiscal year end window dressing, and the Japanese banking sector dealing with an expected adjustment in the regulatory regime. The MoF’s weekly security flow data covering the month of May showed sizeable foreign bond buying interest. It was only last week when Japan-based accounts were selling foreign bonds again. The more interesting part of the MoFreport reveals that foreign flows into Japan’s money market funds has sharply reversed, suggesting that the ‘monetization’ of the USDJPY basis may have slowed, nd that Japan’s USD hedging costs may not fall much further from here.

The failure to secure political stability – and the outcome of a hung parliament – was always going to be the pound’s nightmare scenario. When Theresa May called this election, markets were viewing things through the rosiest of lenses – with hopes that political uncertainty would decrease substantially under a more stable Conservative government. That narrative has been all but dashed. With the two-year Article 50 clock ticking, the passage of time is GBP negative; a working government is needed as soon as possible to avoid a further drop in the pound. The most likely path looks to be a Conservative-led coalition with the Democratic Unionist Party (DUP); while it may not be straightforward given noise over Theresa May possibly standing down, GBP could enjoy a small relief rally on any political clarity. The worst outcome for GBP now is any prolonged political uncertainty and difficulties in forming a working government over the coming days; here we would expect GBP to trade with a 3-4% political risk premium, with GBP/USD falling back to 1.24 and EUR/GBP moving up towards 0.90.

The FT reports that Labour and Conservative party strategists predict a comfortable 50-100 seats majority for the Tories. If confirmed, markets may see an initial relief rally. Nonetheless, over recent weeks, GBP has turned from a ‘buy the dip’ into a ‘sell the rally’ currency. We cite a handful of reasons.First,valuation is no longer as much in favour of sterling as compared to November when we expressed our out-of-consensus bullish GBP call. Second, GBP weakness has failed to provide a positive contribution to net exports. Third, EMU’s negotiation stance has hardened. Instead of considering making concessions to the UK, the EU has started focusing on deeper political and economic integration.Fourth, PM May has been criticised of weakness during what the FT has suggested has been “widely seen as a misfiring campaign’after the apparent reversal of part of the social care policy.Finally, the UK’s national balance sheethas weakened over recent months as households reduced savings, bringing forward consumption, while the real estate sector has started slowing as indicated by today’s release of the May RICS house price index slowing from 22% to 17%.

The Monetary Policy Committee (Copom) cut the Selic rate by 100 basis points (bps), from 11.25% p.a. to 10.25% p.a., at its May 31 meeting. The decision was in line with our forecast and that of the vast majority of market participants (43 out of 47 institutions, according to Bloomberg). The communiqué released after the meeting signaled moderate reduction in the pace of the current easing cycle at July’s meeting. The committee’s view is that greater uncertainty regarding the speed of the approval of reforms has deteriorated the balance of risks for inflation. The committee ascribes a higher probability to scenarios in which reforms are postponed and is uncertain of how inflation would evolve in those cases. The document also emphasized that the reduction in pace is still conditional on the dynamics of economic activity, inflation expectations, and the committee’s own understanding of the extent of the current easing cycle. We share the view that the latest political developments have increased uncertainty regarding the approval of reforms.

At least for the next few months, members of Congress will probably not be inclined to approve any significant bills, especially those that require close coordination, such as social security reform. The most likely scenario is that, if approved, the social security reform will be further diluted, therefore with a milder impact on fiscal accounts. As we have already argued in several of our publications, a strong social security reform is required in order to stabilize primary expenditures and, consequently, to comply with the cap on primary expenditures. The more uncertain scenario regarding the approval of reforms in Congress and the recognition by Copom members that the probability of negative scenarios has increased lead us to revise our base-case scenario for the path of the Selic rate in the coming months. We now expect a smaller rate cut in the Selic rate at the Copom’s next two meetings on July 26 and September 6, from 100bps to 75bps. If our forecast materializes, the Selic rate will decline from the current 10.25% p.a. to 8.75% p.a. in September.

The Copom unanimously decided to reduce the Selic rate by one percentage point, to 10.25 percent per year, without bias. The following observations provide an update of the Copom’s baseline scenario: The set of indicators of economic activity released since the last Copom meeting remains consistent with stabilization of the Brazilian economy in the short run and a gradual recovery during the course of the year. If sustained over a long period, high levels of uncertainty regarding the evolution of reforms and adjustments in the economy can have detrimental effects on economic activity; Stronger global economic activity has so far mitigated the effects on the Brazilian economy of possible changes of economic policy in central economies; Inflation developments remain favorable.

Disinflation is widespread and includes IPCA components that are most sensitive to the business cycle and monetary policy. It is necessary to monitor possible impacts of higher uncertainty on the prospective path of inflation; Inflation expectations for 2017 collected by the Focus survey fell to around 4.0%. Expectations for 2018 are around 4.4%, and expectations for 2019 and longer horizons are around 4.25%; and The Copom’s inflation projections for 2017 and 2018 in the scenario with interest rate and exchange rate paths extracted from the Focus survey are around 4.0% and 4.6%, respectively. This scenario assumes a path for the policy interest rate that ends 2017 at 8.5% and remains at that level until the end of 2018. The Committee emphasizes that its conditional inflation forecasts currently involve a higher level of uncertainty. The Committee views the heightened uncertainty regarding the speed of the process of reforms and adjustments in the Brazilian economy as the main risk factor. This arises from both a higher probability of scenarios that may hinder this process, and the difficulty in assessing the effects of these scenarios on the determinants of inflation. Taking into account the baseline scenario, the balance of risks, and the wide array of available information, the Copom unanimously decided to reduce the Selic rate by one percentage point, to 10.25 percent per year, without bias.

The Committee judges that convergence of inflation to the 4.5% target over the relevant horizon for the conduct of monetary policy, which includes 2017 and, to a greater extent, 2018, is compatible with the monetary easing process. The Copom emphasizes that the extension of the monetary easing cycle will depend, among other factors, on estimates of the structural interest rate of the Brazilian economy. The Committee judges that the recent increase in the uncertainty regarding the evolution of reforms and adjustments in the economy hampers a more timely reduction of estimates of the structural interest rate, and makes them more uncertain. The Committee will continue to reassess these estimates over time. In light of the basic scenario and current balance of risks, the Copom judges that a moderate reduction of the pace of monetary easing relative to the pace adopted today is likely to be appropriate at its next meeting. Naturally, the pace of monetary easing will continue to depend on the evolution of economic activity, the balance of risks, possible reassessments of the extension of the cycle, and on inflation forecasts and expectations.

As USD sentiment hits the lowest level since May 2011 (only 5% of traders are bullish), we are now seeing the flows-related impact on the treasury market. Yesterday saw a very weak 1 year US government T-bill auction, where the bid to cover ratio, at 2.84, was the lowest since 2009. USDJPY may have rallied yesterday in response to longer end yields rising but we feel that for the USD to rally more broadly, you need to have the supporting capital inflows to the US. Lack of demand at a bond auction may naturally suggest less global USD asset demand. Recently, foreign investor participation in 10y bond auctions has fallen to 16% relative to a high of 28% in April. We see the USD weakening vs the EUR and tactically further vs NZD.

Political stability and increasing voices from core Eurozone countries to move towards a fiscal union have driven the EUR higher. The improved sentiment and growth outlook supports equity inflows. Helped further by Schauble and Merkel saying the EUR is too low for Germany, foreigners have been buying Eurozone equities on a currency unhedged basis (USD7bn since March via ETFs), in contrast with only a fraction with the FX hedge (USD0.9bn). In 2014, when inflows were with a currency hedge, stronger risk appetite drove EURUSD lower (the negative correlation). Today, stronger risk appetite should drive EURUSD higher (the positive correlation). We are already starting to see the EUR moving in line with positive economic data surprises (see Exhibit). Stronger growth means a stronger EUR.

But what about EUR bond flows? EURUSD is trading much higher than where the German-US 10y spread would suggest. Since August 2016, the correlation between the bond and FX market was close and using that relationship, the EUR should be trading close towards 1.10 (vs 1.1170 today). . The difference, we think, can be attributed to the equity inflows. Bond inflows may have not picked up as significantly due to the uncertainty that ECB tapering may bring for that market. We believe we need to see much higher yields before the equity inflow turns into a more sustained bond inflow. As of the last update of the balance of payments in March, Eurozone investors were still buying more foreign bonds than foreign investors were buying of theirs. Japan’s weekly security flow data is released overnight, where weakness in USDJPY would suggest Japanese had slowed bond purchases last week, but we don’t expect that to last.

As equity volatility has come down to close to its lows (VIX at 10.72),even China’s sovereign rating being downgraded by Moody’s to A1 from Aa3hasn’t dented risk appetite in the Asian market. China was put on negative watch in March 2016, therefore it is the timing of today’s announcement thathas come as a surprise. Moody’s cited an expectation that financial strength will erode somewhat over the coming years as debt increases and potential growth slows. AUDUSD has weakened 0.5% overnight, suggesting the technical uptrend is complete. We keep our bearish AUD bias driven more by domestic factors, such as the housing market. Construction activity fell by 0.7% in 1Q, leading to a 1Q GDP tracking estimate of -0.2% QoQ.

The market prices an 81% probability of a Fed rate hike in June, supported further by the Fed’s Harker saying that a June hike “is a distinct possibility”. The FOMC minutes will be watched to provide clues on the path for rates and how the committee views that tightening measure along with balance sheet reduction. Market expectations for the OPEC meeting tomorrow are for a 9-month extension to the production cut. Today US crude inventory data will be watched for NOK and CAD investors. The US budget proposed yesterday to sell 270 million barrels of oil from the Strategic Petroleum Reserve over the next decade.

10Y bond spreads have overall widened in the last one week (1W). Central America and LatAm have widened the most, while Asia is the only region to tighten in the last 1W. All the credit rating buckets have widened over the last 1W, with BB rated credits underperforming the most.

10s30s spread curves steepened by 1bp in the last 1W to currently stand at 64bp. On an absolute basis, COL is the steepest curve, while PHI is the flattest. On a 6m z-score basis SOAF and ARG are the steepest curves, while BRA is the flattest.
The CDS-bond basis decreased by 2bp in the last 1W to currently trade at positive 11bp. This leaves the basis close to the 6m average of 10bp. On a 6m z-score basis BRA has the most positive basis, while SOAF, PHI and INDO have the most negative.

As the markets recover from last week’s jolt triggered by allegations by Washington Post and New York Times that President Trump urged director Comey to end investigations into General Michael Flynn, who was forced to resign from the post of National Security Advisor based on a memo allegedly written by James Comey and read out to the reporters of New York Times by an anonymous source, the hike probabilities have started to strengthen but are still a bit far from pricing two more hikes.

The probability of the next hike to be in June increased from 65 percent last week to 79 percent as of latest. However, the market is pricing just 43 percent chance of the third hike in December. Some of the policymakers have also recently toned down their rhetoric towards the rate hike path. St. Louis Fed President James Bullard has recently commented that expected rate hike path is too aggressive. He also raised doubts about the June hike possibility. While Mr. Bullard is not a voting member of this year’s FOMC, his comments might be resonating the views of other policymakers too.

The ruling ANC has for many years called for radical transformation, of society and the economy, to attain “shared prosperity, social justice and human solidarity”. Yet it is still not clear what radical policies and tactics will be employed. Its nine Discussion Documents, prepared for its National Policy Conference starting on 30 June, do not in general reveal much that is radical, in our assessment. Radical interventions may well be formulated at the Policy Conference in July and adopted at the Elective Conference in December 2017, but for now we highlight the following themes:

The Discussion Documents in general reveal: first, honest self-reflection on the recent failings of the party and the need for renewal to arrest its “declining fortunes”; second, a continued reference to the National Development Plan, as the guiding long-term plan; third, statements on fiscal and monetary policy that investors will find reassuring, in our view; fourth, acknowledgements of where policy and tactics have not worked and which need to be reformed; fifth, a continued devotion to the utilization of state-owned enterprises as channels for economic development; and sixth, a desire to transform the other three pillars of the state – the legislature, the judiciary and the media. A final general observation is that the documents, as they currently stand, allow for wide interpretation of what radical transformation would look like and how it would be achieved. Herein lies the uncertainty for investors.

Of 108 key selected extracts – statements, proposals or tactics ? from the nine Discussion Documents, we consider: (a) 70 (in isolation) as positive for growth, productivity and investment; (b) 30 as neutral, either because we have uncertainty about intentions or they have little direct financial market impact; and (c) 8 as negative. Within the list of 70 ‘positive’ statements, proposals and tactics, we think that 32 have elements over which investors have doubts, be they about the ANC’s commitment, implementation, funding or unintended consequences of policies. Within the list of 30 ‘neutral’ statements, proposals and tactics, we think that 19 have elements over which investors have uncertainties. Within the list of 8 ‘negative’ statements, proposals and tactics, all will be of concern to investors.

There is much in the ANC documents that is worthy of debate and serious analysis. We are however concerned that this will not happen at the ANC’s Policy Conference, which could be used by factions to strengthen positions for the party’s leadership battle. Policy positions could end up being mere proxies for factions, according to former Deputy Finance Minister Jonas, who recently also said that populism could hijack the policy discussions.

US Interest Rates and the Fed
The Federal Reserve left monetary policy unchanged yesterday in what was a unanimous decision. The accompanying statement saw few meaningful changes to the one issued following the March announcement. The Fed still expects inflation to “stabilise around 2% over the medium term” while growth risks “appear roughly balanced”. There were slight nuances given that 1Q GDP was disappointing and the PCE deflator has softened recently, but the Fed suspect’s these developments will be “transitory”. In terms of the direction of policy the Fed reiterated that they believe economic conditions will “evolve in a manner that will warrant gradual increases in the federal funds rate”. Their last forecast update, published in March, showed that at that point in time the median Fed member’s expectation for the Fed funds rate was 1.4% for end-2017, 2.1% for 2018 before rising to 3% by end-2019. In terms of the outlook for policy we continue to favour just one 25bp hike this year rather than the two to three currently pencilled into the Fed’s FOMC member forecasts and the 40bp of tightening priced in by the OIS curve. The recent data flow has been somewhat softer than hoped, be it business surveys, GDP, employment growth or inflation. There is also a lack of clarity on the scale and timing of any fiscal stimulus brought about through President Donald Trump’s tax and spending plans. Consequently, there is scope for market disappointment that could lead the Fed to reappraise the situation. The statement also repeated that the Fed will maintain its “existing policy of reinvesting principal payments from its holdings” of debt securities and of “rolling over maturing Treasury securities at auction”. We will have to wait for the minutes to this meeting to see the actual discussion around this. Last time officials suggested that we could hear something about lowering the reinvestment rate this year. Such action would reduce demand from the biggest buyer and likely lead to higher longer dated bond yields and a steeper yield curve. However, given our more cautious prediction for Federal Reserve rate hikes we see scope for this policy change to slip into early 2018 – note the line that the wind down in the balance sheet won’t start “until normalization of the level of the federal funds rate is well under way”.

European Interest Rates
The outcome of the first round the French presidential election will likely dominate global yield behavior over the coming two weeks. Whether the impact will be limited to that period or last longer will depend on the outcome. In our view, the risk of surprise is higher in the first round, given how closely bunched together candidates’ poll numbers are (Macron 23%, Le Pen 22%, Fillon 20%, Melenchon 19%). It appears likely that the candidates’ final poll readings could end up within the margin of error ahead of the election, making it hard for markets to price out this risk ahead of actual results. The main reason, of course, is that both Le Pen and far-left candidate Melenchon are staunchly anti-EU, and a victory by either would be highly disruptive for both France and Europe more broadly. Alleviating some of the tight polling in the first round is the fact that the second round polls show a comfortable margin for either mainstream candidate (Macron or Fillon) in a head-to-head matchup with Le Pen. Even here, however, there are some risks, as there’s more of a mixed result versus Melenchon. The real risk to markets then, appears to be Melenchon making it to the second round. We discuss how interest rates markets may react to the various outcomes in the first round below. The first, and more likely scenario in our European economists view, is that Le Pen and Macron will be the top two finishers in the first round. In this case, polls indicate that Macron is expected to win fairly easily in the second round, having consistently led by about a 20 point margin—markets would view this outcome as fairly benign. We had estimated previously that there was about 25bp of “redenomination risk” premium in Bunds.

Since then, more of this negative premium has been priced into German sovereign debt, and we now estimate there’s about 35bp. Some of this is likely to be unwound immediately following this outcome in the first round, though not the entire 35bp as the second round polls are still over two weeks away. In terms of peripheral spreads, this would mean compression, given that they are currently close to their widest levels seen in the past few years. Some caveats are in order; in the event that Le Pen wins with a much larger margin than current polls show, the selloff in bunds may be rather muted, given that a surprisingly large margin could reveal some polling issues.

Global FX, DXY strength, China and AUD
The DXY is expected to gain further from here, with the overnight FOMC statement helping to restore USD optimism. Our probability of the Fed hiking rates on 14th June has risen to 80%+ after the Fed called the slowing in growth during the first quarter as ‘likely to be transitory’ and that the fundamentals for consumer spending ‘remained solid.’
Today will see US releases on trade, initial jobless claims and factory orders. Initial jobless claims may have been distorted by the Easter holidays; hence we will not pay too much attention to a potential rise in claims. Weak productivity data is a reflection of the past and the natural consequence of the rising labour/capital ratio witnessed in the US over the past years. Factory orders have improved substantially over recent months, seeing orders ex transportation now gaining 7.5%Y, representing its best expansion for more than 5 years. March trade data should be looked at in terms of activity, with rising imports and exports pushing the USD higher. US trade is now in a better position compared to previous occasions when the US was aiming for higher growth rates. Previously, better US demand acted as a magnet for imports, driving the trade deficit swiftly higher. Nowadays, the increasing output of the US energy sector reduces energy imports and likewise increases energy exports, helping to keep the trade deficit stable for longer.

USDJPY has reached 112.89 overnight and will now need to overcome the 112.90/113.10 resistance to open upside potential to 116.50. Our bearish JPY call requires markets to stay confident on the global reflation outlook. The Fed expressed this confidence yesterday, but commodity prices have come off sharply over recent days, suggesting USDJPY may see some corrective activity before overcoming the 113.10 resistance. Over the next few days, AUD may be the better short instead. China related commodities have come under selling pressure with iron ore and coal futures now approaching their mid-April lows. China’s PMI releases including today’s services sector PMI have disappointed. Its equity markethas underperformed while its bond yields have risen, indicating that China’s financial conditions have tightened. The mini tightening cycle designed to reduce the pace of leverage build-up seems to now be impacting China’s economy. The PBoC has injected RMB 140bn (USD 20.3bn) on Wednesday, representing the largest single-day addition since 19th January, but their refraining from rolling over maturing medium-term lending facility loans caused the seven-day repo rate to rise 80bp to 4.5%. Back-end RMB yields have continued to rise, representing bad news for the AUD.

Rising RMB yields may undermine the AUD from various sides, especially if the yield increase is not covered by better Chinese economic data. First, the discrepancy between the evolution of China’s economic growth rate and yield does not only signal tighter financial conditions, it also highlights the risk of the economy deleveraging, suggesting it will lose further growth momentum. Secondly, globally rising bond yields increase the funding costs of Australia’s wholesale dependent banking sector.

The JPY, US Yield Curve, Asian FX and Global Bonds
The JPY is set to weaken further from here. Importantly, US Congressional leaders reached a tentative deal on government spending to end Sep, averting a shutdown, suggesting the US Treasury will increase its cash balance somewhat. The sharp decline of the Treasury’s cash level starting in February has unleashed additional cash, pushing US front end rates lower, and adding to the trend of the 3m USDJPY cross-currency basis tightening from -91bp in November to -22bp in March. Now the reverse should be expected with higher US bond yields and prospects of the upcoming US tax reform not only increasing US demand for capital, but also the potential repatriation of part of the USD 1.2-1.4trn of US corporates’ foreign earnings held in cash and marketable securities reducing the availability of offshore USDs. EURJPY has reached its highest level since 14th March.

US Treasury Secretary Mnuchin underlined the government’s 3% GDP target which he hopes could be reached through revamping the tax system, regulatory overhaul and improving trade agreements. Interestingly, he pointed out that the difference between 2% or 3% GDP growth could make up USD2trn of additional tax revenues, providing further indication of the US administration aiming for a tax reform which initially may be funded via higher deficits. His hint of using the very long end of the US yield curve for funding added to the steepening of US yield curve. Transportation Secretary Elaine Chao said the Trump administration’s sweeping infrastructure proposal will be unveiled ‘fairly shortly’. Wednesday’s vote on the Obamacare Repeal Act – if successful – could spark further optimism around the administration regaining its ability to push through reform. It may be this optimism pushing US share prices higher, volatility lower and yield differentials and the USD higher against low yielding currencies.

It seems the US administration’s future economic and fiscal plans overrule macroeconomics for now. US and global data have all been coming in weak with the Australian and the Indonesian PMI being the exception. Despite a string of mostly disappointing PMIs from Asia, the procyclical currencies in the region are the outperformers globally so far this week: TWD, NZD, MYR, KRW and AUD. The US equity market no longer takes the lead from the economic surprise indicator which has fallen to its lowest level since October 2016. It seems that declining global headwinds and prospects of an increasing pace of reform in the US have persuaded US investors to stay long risk.

Interestingly,global bond yields rallied overnight with better risk appetite and rebounding industrial raw material prices helping. Barely noticed has been the stabilisation of the CRB Rind index and copper futures challenging its three months downtrend. Apparently, commodity markets have looked beyond China using the stabilisation of its capital account to rebalance the domestic side of its economy away from its old commodity-intensive areas such as property. According to the Chinese Economic Daily, the sale of commercial property in Beijing slipped to 84 units compared to 807 units this time last year,. Sales volume in first- and second-tier cities fell to the lowest level

Predictably, the announcement of the US tax reform lacked funding details and hence has come under immediate criticism. For instance, the Committee for a Responsible Federal Budget released a rough analysis saying the plan could cost USD3-7trn over the next decade, potentially “harming economic growth instead of boosting it.” Markets reversed early gains. We stay firmly within the reflation camp and view USDJPY setbacks to 111.00 as a buying opportunity. Today’s US durable goods release may confirm that US capex is on the rise, pushing rate and yield differentials wider in support of USDJPY. Today’s ECB press conference may see a cautious Draghi relative to expectations fearing an early tightening signal may push BTP spreads wider. EURUSD should stay offered below 1.0970 with the risk of closing Monday’s opening gap down to 1.0870.
Although Chinese equity markets recouped most of their early morning losses, the divergence in their performance relative to DM equity markets witnessed since November has caught our eye. We are bearish on low yielding commodity currencies and run aggressive AUD short positions. There are many reasons suggesting AUD weakness, reaching from too low AUD-supportive interest rate and yield differentials to fund Australia’s 60% of GDP foreign liability position, to an overvalued property market running the risk of unleashing deflationary pressures once prices come off the highs. However, our best reason for running AUD shorts is that Australia has builtup capacity to deliver into the ‘old’ China, an economy expanding via commodity intensive sectors such as investment and property. An evolutionary China rebalancing its economy away from investment and property will leave Australia’s commodity overcapacity exposed.

It may be debatable whether the equity performance gap between the US and China will widen further from here or whether China’s equity markets will catch up with the better US performance. What is true is that the recent decline in China’s stock prices came along with peaking margin debt. Higher RMB funding costs may have triggered leveraged share investors to take some chips out of the market, leading to the diverging China – US equity trend. The connectivity into the FX market comes via the RMB TWI weakness and may have contributed to the increase in RMB yields. While a lower RMB TWI helps China utilise its capacity and hence is good for its growth outlook, there is a risk within the highly leveraged economy that rising debt funding costs more than undermine the positive impact coming from the FX side. The relative weakness of China’s equity market may be a symptom of this development and this morning’s disappointing release of China’s March corporate profits did nothelp China’s equity markets either (the gain for industrial profits was 7.7% lower than in the January-February period, but it was 12.7% higher than the gain in March 2016). The message seems clear: China should concentrate on bringing its funding costs lower, shifting its focus away from RMB TWI weakness. Since the RMB is quasi-pegged to the USD, this shift of China’s policy focus will work in support of the USD.

AUD, with its significant trade exposure to China, should weaken most should China reduce its resistance to the USD rising allowing the RMB TWI to rebound. China may need capital inflows into the bond market to reduce capital funding costs. Since RMB hedging tools are not as developed as in G4 currencies and hence less efficient to use, currency stability is an essential tool convincing non-RMB-based investors to allocate funds into China. Consequently, the rising USD will put AUDUSD under selling pressure. This move may be leveraged by redirected capital flows from G4 into China, pushing G4 bond yields higher. Australia’s banking sector has reduced its wholesale funding dependence over the course of the past decade, but still has one of the most wholesale funding-dependent banking sectors within G10. Hence rising G4 rates and yields mechanically increase local AUD funding costs without the RBA increasing its rates. This is why we are sceptical of Australia maintaining its real estate strength at times of globally rising funding costs.

The best case scenario for markets would clearly be the elimination of the two “extreme” candidates: if Macron and Fillon manage to top French voters’ preferences on the 23rd, we anticipate a risk on move from financial markets. The worst outcome for risk assets would be a second round featuring Le Pen and Melenchon. Although we would expect markets to be volatile for some time, such an outcome wouldn’t equate to the end of the world (yet), as it is unlikely that an extremist candidate, even if appointed President, would be able to do much harm without a parliamentary majority.
Historically, France always had two strong candidates, coming from the two main parties. This time round, there is a significant chance that none of them will be represented in the second round. Indeed, this election has faced a series of twists:

? Initial favorite candidate, Francois Fillon (center-right), has lost more than ten points in the polls, partly because of his family’s allegedly fictitious employment issues. Although only third in most polls, Fillon can count on a solid base of center-right voters to keep alive the possibility of being in the second round.
? Macron (center) has managed to emerge as a credible candidate and is now ahead in all polls – with a remaining fragility, though: his voters’ loyalty is seen as lower than than of Fillon or Le Pen’s.
? Marine Le Pen’s campaign hasn’t seen any momentum so far. Starting from a very high position, she has slowly been trending down over the past two months – still, she should still manage to access the second round. She doesn’t seem able to attract new voters, though.
? Finally, Melenchon (far-left)’s support has surged in the past few days pushing him up to the fourth position in the presidential race with a score very close to Fillon’s one. Meaning he could still make it to the final round.
If anything, as soon as the risk of “Frexit” comes into view, we believe the issue for markets will not be France leaving the euro, but the euro leaving France. The most likely reaction to such an episode of financial stress would be a political response in the opposite direction, we believe. If Le Pen and Macron move on, they expect a likely unwind of some of the “redenomination risk” premium embedded in bunds and compression in peripheral spreads. Melenchon in the second round, on the other hand, would present a risk to markets given his favorable second round polling against Fillon and Le Pen. In a favourable outcome EURUSD may move quickly towards their 1.10 3 month forecast. An adverse scenario may see a drop towards recent lows below 1.04.

Historically, exit polls provide a first estimate of results at 8pm local time. However, conclusive results could be available a little later as it could be hard to get a precise estimate of the two winners early, if results are very close. Note that although French media are not allowed to publish any results before 8:00 pm on Sunday, it is possible, as happened in the past, that medias in other countries will. Participation rates at 12pm and 5pm are also worth watching: we believe a high participation rate could be negative for Le Pen (and to a lesser extent for Fillon) – and potentially positive for Macron or Melenchon – and viceversa, providing an early indication on the direction things might take.

Through the early-2017, Canada’s economy continued to bolster; however, the sources of the accelerating growth of the nation are proving slightly different from the ones expected a few months ago, noted Scotiabank in a research report. In the hand-off from last year, the rising affordability concerns were expected to be a drag on housing and auto sales, while record consumer indebtedness and increasing interest rates would possibly hurt consumption growth.

These mild drags were expected to be countered by strengthening investment, rising non-energy exports, and follow-through on public infrastructure plans. However, housing, auto sales and consumption growth have not decelerated, whereas business capital spending and non-energy exports have not accelerated. Also, public-infrastructure spending is delayed, stated Scotiabank.

The main growth drivers of Canada’s economy continue to be the same and imbalanced. According to Scotiabank, the Canadian economy is expected to expand 2.3 percent this year, whereas it is likely to grow 2 percent next year. The sources of Canada’s GDP growth are projected to start shifting and diversifying in the year ahead, lowering the economy’s dependence on housing and consumption and increasing the contribution of exports and investment to growth, added Scotiabank.

The Central Bank of Russia is expected to continue the series of the key rate cut. There is a 100 percent possibility for the CBR to continue cutting its key interest rate, noted Nordea Bank in a research report. Inflation in the country is at the lowest levels since the post-Soviet period. Furthermore, the inflation expectations are trending lower.

In the meantime, the Russian economic growth figures are not positively surpassing expectations at present. Growth in retail sales continues to be negative, while capital construction fell 5.4 percent in the first quarter of 2017. Also, investment activity growth continues to be symbolic. Thus, certain stimulus is required and it can be achieved through easing of the monetary policy.

Firms in Russia do not mention the interest rates as the top thing as the hindrance for business development. Meanwhile, money market rates have already begun pricing in a rate cut.

There are some factors that might prevent the Russian central bank from aggressive rate cuts. There is uncertainty regarding the OPEC/OPEC+ agreement for the second half of this year. If the agreement is not prolonged, oil prices might decline and inflation might accelerate in tandem resulting in depreciation of the RUB. Meanwhile, high consumption growth can also pose as a threat to the inflation. Additional aggressive rate cuts would stand out against the central bank’s cautious rhetoric and earlier take steps, stated Nordea Bank.

The euro area economy has indicated signs of a considerable acceleration following a 0.4 percent quarter-on-quarter growth in the fourth quarter of last year. Recently, all business surveys have continuously surprised on the upside, indicating towards GDP growth accelerating closer to 2.5 percent year-on-year, a rise from 1.7 percent year-on-year recorded at the end of 2016. This is stronger than the possible growth estimated at about 1.1 percent year-on-year, suggesting that the euro area output gap might be closing at a much rapid rate as compared to projected earlier, noted Scotiabank in a research report.

Throughout the euro area, Germany is expected to be an economic outperformer, owing to the firming global demand. The latest IFO surveys have come to their highest levels since 2011 when the German GDP growth was growing by over 4 percent year-on-year. But there are also signs that the euro area recovery is widening throughout its member states. The PMIs are rising in Italy and France in spite of the negative effect of increased political uncertainty, stated Scotiabank.

Moreover, increased supportive financial conditions continue to strengthen the euro area economic recovery, with interest rates staying at low levels along with continuing stimulus provided by the ECB. The subdued euro is also giving a boost, with the nominal effective exchange rate trending at its lowest level in nearly 15 years and helping local competitiveness. Hence, credit growth has bolstered, rising to 2.3 percent year-on-year in February, the most robust since 2009 and over double the growth pace witnessed a year ago. Overall, these developments bolster the view that the euro area economic recovery is becoming more sustainable, stated Scotiabank.

“The risk to the Eurozone growth outlook has now shifted to the upside, with both the EU Commission and the ECB revising their real GDP growth forecasts for this year and next year up closer to 2.0% y/y”, added Scotiabank.

The Leading Economic Index for the U.S. rose again in the month of March, rising 0.4 percent. This is the seventh straight rise. Of the total components, six of them contributed to the topline figure, whereas two segments contributed negatively, noted Wells Fargo in a research report.

The labor market component contributed negatively to the index. It had been contributing positively in recent time. Initial jobless claims and manufacturing hours negatively contributed 0.09 percentage points and 0.13 percentage points respectively from the topline figure.

Optimistic consumer expectations contributed 0.12 percentage points to the index, the largest contribution since December 2004. The interest rate spread contributed 0.19 percentage points. This was the largest contributor to the index in March. Meanwhile, ISM new orders and the housing permits components also contributed to the segment, adding 0.19 and 0.11 percentage points respectively. The Leading Economic Index’s upward trend continues to signal moderate economic growth in 2017, stated Wells Fargo.

The German bunds gained Friday, following a lower reading of the country’s manufacturing and composite PMI.

The yield on the benchmark 10-year bond, which moves inversely to its price, fell nearly 1 basis point to 0.24 percent, the long-term 30-year bond yields also slipped around 1 basis point to 0.95 percent and the yield on short-term 2-year bond plunged 1-1/2 basis points to -0.80 percent by 08:40 GMT.

The Markit Flash Germany Composite Output Index registered 56.3 in April, down from March’s near 6-year high of 57.1. This signaled the first easing in growth of private sector business activity since the start of the year, but still the second-fastest rate of expansion in over three years.

Further, the ongoing strength of business conditions in manufacturing, in particular, was reflected in the headline Markit Flash Germany Manufacturing PMI coming in little-changed from March’s 71-month high of 58.3, at 58.2.

Since Monday, April 10, positioning has shifted. Within G10, the largest shorts are still in USD and GBP; the largest long is now in EUR. EUR positioning moves further into long territory: All components except IMM showed an increase in EUR positioning. Global macro funds and Japanese retail accounts were big buyers, moving from neutral to long. Japanese retail accounts are now small net long EURJPY for the first time since November. Sentiment also turned less bearish, helped by a fall in USD bullish sentiment after Trump’s comments that the USD was getting too strong.

Non-commercial IMM accounts were the only ones who sold EUR, but their net short EUR positioning remains near the smallest since May 2014. The French election this Sunday will be the main driver for EUR; see our expectations for EURUSD under different scenarios here. JPY positioning remains neutral: Investors’ JPY positioning was mixed. Among Japanese investors, retail accounts were JPY sellers but Toshin accounts were buyers. Among global investors, global macro funds were sellers, but non-commercial IMM accounts were large buyers, and sentiment turned bullish, with the percentage of bullish JPY traders rising by nearly 20% on the week. We remain bullish on USDJPY strategically.

GBP short positioning unchanged: GBP was the second most sold currency among non-commercial IMM accounts, bringing these accounts’ short GBP positioning back near the historical high. Global macro funds were also large sellers. On the other hand, Japanese retail accounts doubled their long GBP positions last week, and sentiment became less bearish. This short positioning is likely to contribute to GBP strength on any positive news, as shown by the GBP rally today after the announcement of early elections. We still like EURGBP shorts on positioning differentials and the potential for GBP to develop a safe haven status should markets get worried about Eurozone political risks.

The first trading day after the long Easter weekend saw a lot of volatility in EGB markets, helped by the call for snap elections in the UK. Interestingly, despite the risk-off mood in equities and widening in iTraxx credit indices, peripheral EGB spreads managed to tighten. What is more, the 10yr OAT/Bund spread eventually closed little changed at 73p, although 5yr spread widened by 2bp. Thanks to the afternoon rally in US Treasuries, the 10yr Bund yield closed 3bp lower at 0.15%, hitting the low end of the year-to-date range. With four French presidential candidates clustered around 20% in the polls for the first round on Sunday and the backdrop of heightened geopolitical uncertainty, we expect core bond yields to hold at current depressed levels in coming days.

ECB QE data. In the first full week of buying subject to the new monthly target of €60bn total APP purchases amounted to €15bn, which suggests a moderate frontloading ahead of the Easter weekend. The PSSP accounted for €12.5bn, or 83% of the total. This share is within previous ranges, if not slightly lower, with the average since July 2016 at 85%.

EGB supply. Today Germany will re-open the off-the-run DBR 2.5 7/44 line for €1bn. The bond is trading exceptionally rich on ASW by historical standards (i.e. -38bp). However, it is also trading rich in repo (i.e. -0.85% s/n yesterday), suggesting a short base among dealers, and looks cheap on the curve, with the DBR 42/44/46 micro-fly at its highest level on record. This should ensure that the auction won’t fail. For comparison: the previous tap in February saw a real bid/cover of just 0.7 and a retention rate of 41.7% Elsewhere, KfW is expected to launch a new 5yr EUR benchmark today. Interpolating between the KFW 0 6/21 and 7/22 lines would pitch fair value on the secondary curve in the MS -39/-38bp area. Belgium yesterday announced that the bonds that will be tapped on April 24 are going to be the OLO 10/23 and 6/27 lines.

• Iran supports extension of the ‘cut’ deal: Bijan Zanganeh, Iran’s petroleum minister, has been quoted as saying that Iran would support an extension to the deal. Several other countries, including Saudi Arabia, Venezuela and Oman have already lent support to the extension, raising the probability of the OPEC/NOPEC deal staying intact until the end of the year.
• US crude inventory seen falling: A Bloomberg survey sees US crude oil inventory having fallen 1.4MMbbls WoW to 532MMbbls for the week ended 14 April 2017. In terms of products, gasoline and distillate inventory could drop by 2MMbbls and 1MMbbls, respectively, with refinery utilisation improving marginally by 0.2% to 91.2%. Drawdown in oil and products inventories is likely to help the current rally in oil prices continue.
• Australia Met coal supplies returning: The Goonyella coal rail system in Queensland could reopen as early as 26 April, vs the initial expectation of around 8 May, though with lower capacity and speed restrictions. With this, all four of Aurizon’s rail systems in Central Queensland will be operational, increasing Met coal exports from Australia and easing the supply shortage in key importing markets, including China and India, from next month onwards.
• Wage talks at Collahuasi: To allow more time for negotiations and avoid a stand-off (as seen at the Escondida mine earlier this year), management and labour unions at Collahuasi, Chile’s second-largest mine, have started wage negotiations early; the current contract expires in October 2017.
• Brazil sugar production: Conab, the Brazilian crop agency, expects the country’s sugar production to be flat at 38.7m tonnes for the 2017/18 season, which starts 1 April 2017. Sugar cane processing in the country could drop 1.5% YoY to 648m tonnes; however, high cane availability in the sugar industry (47.1%, vs 45.9% in 2016/17) is likely to keep sugar production flat.
• Dry weather in Latam supporting harvesting: After severe rains and floods over the past few weeks, the weather is getting drier in Latin America, supporting the soybean and corn harvests in Argentina and Brazil.

Political risk remains a key driver for FX markets, with a mix of predictable and unpredictable drivers. While the upcoming French presidential election and the weekend’s Turkish referendum have featured on calendars for some months, risks such as those associated with US foreign policy or South African politics have not. The latest “out of the blue” event is Theresa May’s decision to call for a UK general election on June 8. The move has been well received by GBP, based on the thesis that the Conservatives are likely to win by a landslide and have a clear mandate to push through Brexit negotiations without too much inconvenient domestic opposition. Remember that the next parliament would run through to summer 2022, giving plenty of time to negotiate and implement Brexit outcomes. Assuming an easy Conservative win with a large majority is indeed the election outcome, which is not unreasonable based on the latest polls, presumably this would also allow PM May more degrees of freedom to negotiate a softer form of Brexit than the market currently feels is achievable. After all, a large majority won directly by PM May would leave her much less vulnerable to rebellions from hawkish factions than she is today, given she currently has only a slim and inherited majority now.

One factor that helped the market price a form of “hard Brexit” in Q4 2016 was PM May’s 2 Oct 2016 speech to the Conservative Party autumn conference, where she suggested a firm commitment to contentious policy aims such withdrawing the UK from the European Court of Justice and seeking full control over UK immigration policy – policies seen as totally at odds with core EU principles and single market membership. In this context, it’s worth noting that May had claimed till yesterday that she did not believe a new election was in the national interest, but now “reluctantly” has changed her mind.

The same PM May was also a “remain” supporter who presumably only “reluctantly” is driving Brexit through having triggered Article 50 last month, at least based on her original position. As such, there is also room presumably for PM May to again “reluctantly” decide that the pledges she made last autumn are no longer in the national interest if they would lead to a disruptive form of Brexit. Simply having to price in higher odds of this series of events going forward are GBP positive in our view, even beyond the possibility of stable government being more likely. Finally, it’s worth noting that the June election could also pose a tricky test for the Scottish National Party. After all, it will be hard for the SNP to better its 2015 general election showing when it took nearly every Scottish seat in the UK parliament. Anything that falls short of that in June would allow PM May to attack the legitimacy of new moves towards a fresh Scottish independence referendum as SNP leaders have pushed for, again helping GBP on the margin.
The steady outperformance of EM currencies since the US election suggests that markets have been very willing to discount expectations that the US administration will deliver on the protectionist promises made during the campaign. We have ourselves participated in this trend, as per our long Mexican peso position.

The US administration’s aggressive stance on trade has also been a reason behind our ongoing bearish stance on the Canadian dollar. Last week the Bank of Canada made a significant shift in a less dovish direction, moving the projected date at which the output gap will close from mid-2018 to earlier in the year.

For Asia FX, slowing global industrial growth momentum is likely to become a key theme. We judge this global IP momentum to already be slowing from about 5% 3m/3m to closer to trend growth of about 3%. Although this would be a modest slowing in IP momentum by historical standards, it nonetheless seems to be having a historically standard negative effect on risk appetite. Core yields have fallen, core equities have begun to struggle and our technical analysts argue for further downside.

After the U.S. Vice President Mike pence visited the demilitarized zones between the South and North Korea and warned that the United States’ strategic patience with North Korea is over and sent a message to North Korea to not to test the resolve of President Trump, Russia has issued a warning to the United States against unilateral action in the region. Vice President Pence said, “In the past two weeks, the world witnessed the strength and resolve of our new president in actions taken in Syria and Afghanistan……North Korea would do well not to test his resolve or the strength of the armed forces of the United States.”

Speaking at a news conference, the Russian foreign minister Sergei Lavrov said that this is a very risky path. He added, “We do not accept the reckless nuclear missile actions of Pyongyang that breach UN resolutions, but that does not mean that you can break international law………I hope that there will not be any unilateral actions like the one we saw recently in Syria.” Russia has also warned the United States against further unilateral actions on Syria.

China is reportedly working with the United States to resolve the issue with North Korea. However, the North Korean regime has so far remained defiant. It test fired a ballistic missile to commemorate the 105th birthday of the country’s founder Kim Il-Sung but the test failed as the missile detonated immediately after launch.

The independent centrist candidate Emmanuel Macron is still the favorite candidate to become the next French President. Odds of his presidency still hovers above 50 percent, far higher than any of his rivals, however, the odds have declined from 67 percent just three weeks ago to 52 percent as of now. While nobody can predict with certainty on who might win on May 7th, one thing is certain that the French are looking for changes and they are looking for it so hard that for the first time main political parties are not at all expected to make it to the round two of the election that will be on May 7th. The incumbent President is so unpopular in France that his approval rating at one point declined to just 4 percent and that legacy would continue to hurt his socialist party for years to come. That is probably is the main reason for his not running for re-election.

Shadow of his disastrous legacy is one of the reasons why the odds are declining for Macron. Many lawmakers of the socialist party are openly supporting Emmanuel Macron against his closest opponent Marine Le Pen. President Hollande has openly declared that it his duty to make sure that Le Pen doesn’t’ win the Presidency. The former Prime Minister under Hollande government of the Socialist Party Manuel Valls has openly declared his support for Mr. Macron instead of his own party’s candidate Benoît Hamon.

Mr. Macron is increasingly being seen as an extension of the establishment and the current socialist government and that is not a good portrayal on an anti-establishment year.

The German 10-year bund yields hit its lowest since December 30 last year on Tuesday as investors poured into safe-haven assets ahead of the Eurozone’s final reading of the consumer price inflation (CPI) for the month of March, scheduled to be released on April 19.

The yield on the benchmark 10-year bond, which moves inversely to its price, slumped nearly 2 basis points to 0.17 percent, the long-term 30-year bond yields plunged 1-1/2 basis points to 0.91 percent and the yield on short-term 2-year bond also traded nearly 1-1/2 basis points lower at -0.86 percent by 08:30 GMT.

The Eurozone flash CPI inflation reading declined to 1.5 percent for March, from 2.0 percent in February. This was significantly below market expectations of a 1.8 percent increase and the lowest reading for three months.

The core inflation reading also declined to 0.7 percent from 0.9 percent previously and was below expectations of a smaller decline to 0.8 percent. The core rate was 1.0 percent for March 2016, illustrating that overall inflationary pressure has been subdued.

Defying demand for a general election for months, the UK Prime Minister has finally decided to hold a snap general election on June 8th in order to receive a mandate from the people of the United Kingdom to take the country through the two-year Brexit process. She surprised many politicians as well as the market with her announcement from the Downing Street. The decision reportedly came after consultations with senior figures and advisors within the party. The recent state of the opposition Labor Party which is fighting internal battles and revolts against the leadership of Jeremy Corbyn might have also influenced the decision. The recent opinion polls show that Theresa May’s conservative party is as much as 21 percent ahead of the main opposition, so holding an election now would likely provide Ms. May with a stronger majority in the parliament.

In addition to that, a win by Ms. May would also end the criticism that she has not contested her post; instead, it was given to her as the former Prime Minister David Cameron resigned after the referendum. This surely adds to the political uncertainties in Europe.

The pound initially suffered a shock selloff on the news but recovered and now trading stronger for the day at 1.264 against the dollar.

The opposition Labour party leader Jeremy Corbyn has welcomed the decision.

The following are some of the highlights from last week’s release of the central bank’s monetary policy minutes from the 30 March meeting. The majority of the board members noted that the “preventive” monetary policy adjustments since late 2015 have generated an “appropriate stance” to face the shocks that the central bank has been facing. One board member said that possible interest rate increases abroad would not necessarily have to be matched with a greater monetary restriction in Mexico, in the absence of additional adverse shocks that could affect inflation in Mexico. Two board members, however, countered this. One of them said that “it is probable that new increases in Mexico’s overnight rate may be needed in coming months” to ensure the convergence of inflation to the target. Another board member said that there cannot be much flexibility for the central bank of Mexico to deviate from monetary policy decisions taken by the US Federal Reserve and, therefore, the central bank of Mexico should at least keep the current short-term interest rate differential with the US. The majority of the board members agreed that the balance of risks to inflation did not worsen further, but noted that risks to inflation are still to the upside (higher inflation), mainly due to the number of inflation shocks in recent months. The majority of the board members also noted that conditions in the labor market have been tightening “in an important way.” Some of them think that the output gap is at zero and one of them said that there are indicators that reflect risks of possible generalized pressures on prices. Another board member noted that he is not too concerned about wage-related pressures on prices given that the economy is slowing down and that recent pressures on wages have not been excessive. The majority of the board members acknowledged the risk of an abrupt reversal in investor sentiment, due to economic policies in the US, geopolitical problems and/or the strengthening of nationalist policies particularly in Europe.

Energy • US crude oil inventories: Yesterday’s EIA report showed that US crude oil inventories fell by 2.17MMbbls over the week, the first significant decline seen this year. However Cushing, Oklahoma crude inventories increased by 276Mbbls, taking total Cushing inventories to a record 69.4MMbbls. • Chinese oil imports: Latest data from China showed that crude oil imports over March totalled 38.95m tonnes, which is a new record for monthly imports. Crude oil inflows for the month were 19% higher YoY, and 23% higher MoM. Stronger imports have come about as a result of declining domestic production.

Metals • China iron ore imports: Preliminary Chinese customs data shows that China imported 95.56m tonnes of iron ore over the month of March, which is 11% higher YoY, and 14.5% higher MoM. Iron ore inventory at Chinese ports remains at elevated levels, and we expect import demand to slow moving forward as a result. • Chinese aluminium exports: China exported 410,000 tonnes of unwrought aluminium and aluminium products over the month of March according to preliminary customs data. This is significantly higher than the 260,000 tonnes exported over February, but still 2% lower YoY. The stronger price environment should support higher Chinese output, leading to an increase in the country’s exportable surplus.

Agriculture • Malaysia cocoa grinding: Latest data from the Malaysian Cocoa Board shows that cocoa grindings over 1Q17 totalled 54,384 tonnes, a 15.7% increase YoY. However the grinding numbers were almost 5% lower than the 57,029 tonnes that was processed in the previous quarter. Although this decline is seasonal, and the grinding numbers are still fairly constructive for demand. • Chinese soybean imports: China imported a total of 6.33m tonnes of soybeans over March 2017, 4% higher YoY, and 14% higher MoM. Total Chinese soybean imports over 1Q17 totalled 19.5m tonnes, 20% higher YoY. However with Chinese crush margins now negative, we should see a slowdown in imports moving forward.

EUR: French elections likely to cap EUR/USD upside around 1.07 level Naturally one would have expected EUR/USD to have rallied substantially in the face of President Trump’s $ jawboning and rising geopolitical tensions. But gains have been harder to come by recently, with the pair struggling to push above the 1.0670/80 area. It is likely that EZ political risks are playing a role, with investors wary of chasing EUR upside in the run-up to the French presidential elections. A EUR/USD move above 1.0700 looks unlikely and could be met with spec sellers.

Verbal intervention does require the backing of fundamentals to develop a lasting impact on markets. Unlike previous occasions of talking USD down, President Trump has linked his dollar overvaluation comments to the US interest rate outlook. His suggestion thathe likes low interest rates (also said in May last year)has now put the debate on the appointment of potentially dovish Fed Chair, representing a fundamental shift compared to his election campaign when he criticised the Fed for running interest rates at a too low level. A reappointment of Janet Yellen seems to no longer be categorically ruled out. Alternatively, Trump could opt for a non-conventional appointment such as from the business world, declaring implicitly that the US still had a wide output gap by saying that the economy had a higher growth potential than currently calculated and therefore could afford lower rates for longer. Yesterday’s comments have opened a new playing field and markets will have to digest its implications.

Two countries, one interest: The good news of President Trump comments was that China will not be called a ‘currency manipulator’ when the Treasury releases its currency report this month. CNY has strengthened by 0.3% to 6.8745 this morning, reaching its highest level since March 31. However, RMB has weakened in TWI terms. In respect of USD, China and the US administration have the same interest. A weaker USD has the potential to boost competitiveness for both countries – directly in the case of the US and indirectly in the case of China, where a weaker USD allows China to depreciate RMB againstnon-USD currencies such as EUR, JPY and KRW just to name the heavyweights of China’s currency basket.

Commodities to undermine AUD: Australian labour market data for March were very strong on the headline, with job growth at 60.9k (20k expected) and all in the full-time sector (75k). In addition, China’s March trade balance, seeing exports growing at 16.4%, by far outpacing the 3.4% consensus expectation, while its imports expanded at 20.3%, is in line with our constructive view on the state of the global economy. However, the CRB Rind index has rolled over and iron ore prices have lost another 1.4% overnight, coming in addition to yesterday’s 2.3% decline. China’s commodity import seasonality may play in here, but China trying to curb housing sector investment and shift growth from the old, commodity consuming part of the Chinese economy towards its service sector may play in too. Anyhow, falling prices for China-related commodities have two effects. First, they should weaken AUD, in which we hold short positions, and second, they may allow international bond markets to keep rallying for somewhat longer, keeping USD selling pressure intact for now.

Does payrolls matter for the USD today? The FOMC minutes gave the market a lot of information on how the Fed is thinking about reducing monetary accommodation. In 2018 the focus will be on balance sheet reduction. The market took this as a signal that the focus in 2017 will be to use the pure interest rate tool to tighten. The market prices 38bp of hikes by the end of this year and a cumulative 70bp by the end of 2018. The strong ADP print on Wednesday has already pushed expectations higher for today’s headline NFP (MS: 195k), therefore it is the wage data that matters for the USD. Average hourly earnings above the 2.7% market expectations would drive the USD higher on the day, particularly vs the JPY. The US 10y breakeven rate has come down from the Jan high of 2.07% to 1.95% today.

Short EURGBP. The best way to play for a dovish ECB in the next 3 months is to sell EURGBP. The pair is developing strong bearish technical signals, which continue to hold as long as EURGBP stays below the 0.8610 level. Draghi and other ECB members yesterday tried to send a message that there has been a recovery in the economy, monetary policy is working but inflation needs to be sustainably close to 2% for us to consider changing policy. Emphasis was also on the sequencing of the removal of accommodative policy, should they reach their targets. We don’t think the ECB will raise rates before starting to taper asset purchases. The ECB minutes said they discussed removing the phrase “rates will remain at present or lower levels”, but that has stayed, possibly to give the ECB as much flexibility as possible, should political events cause market volatility. On the GBP side, a survey released overnight highlights some labour market tightness appearing. The Recruitment and Employment Confederation showed that companies are finding it difficult to fill jobs in London and the South, particularly in the temporary sector where staff availability fell at the fastest rate since January 2016.

SNB still intervening. After the Czech National Bank removed their EURCZK currency floor yesterday, focus will naturally turn to the Swiss. Without having a formal floor any more, we don’t think the SNB are near stopping their currency interventions since they currently have the flexibility to intervene if and whenever they like. Inflation data have been improving, with the latest headline print now at 0.6%Y, the highest since 2010. The latest core inflation print is now above zero (0.1%) but has not yet recovered to levels seen in late 2015 (0.4%). The domestic economy is still dealing with the impact of a strong currency and, more importantly, the slowdown in Chinese demand for luxury goods. For now we think the SNB will continue to intervene in the largest volumes around major risk events, with the next ones being the first and second round of the French election. Recently the SNB have been more explicit than ever before about their management of the FX reserves portfolio. Interestingly they are justifying holding a large equity position (20% of portfolio) by saying they need to do this because of the strong exchange rate. We expect EURCHF to stay stable for now.

South China Sea row intensified after Philippines President Rodrigo Duterte ordered the Philippines’ military to occupy and fortify islands in the South China Sea amid ongoing territorial disputes between China and other countries in the region. China exerts its claim on most parts of the South China Sea while Vietnam, Philippines, Indonesia, Malaysia, Cambodia, Thailand, Singapore, and Taiwan dispute such claims. Competing claims include,
• Indonesia, China, and Taiwan over waters NE of the Natuna Islands.
• The Philippines, China, and Taiwan over Scarborough Shoal.
• Vietnam, China, and Taiwan over waters west of the Spratly Islands. Some or all of the islands themselves are also disputed between Vietnam, China, Taiwan, Brunei, Malaysia, and the Philippines.
• The Paracel Islands are disputed between the PRC/ROC and Vietnam.
• Malaysia, Cambodia, Thailand and Vietnam over areas in the Gulf of Thailand.
• Singapore and Malaysia along the Strait of Johore and the Strait of Singapore.
Duterte told journalists at a press briefing that following his visit to a military base located in the Philippines western Palawan province, “It looks like everyone is making a grab for the islands there. So we better live on those that are still unoccupied. What’s ours now, we claim it and make a strong point from there….We tried to be friends with everybody but we have to maintain our jurisdiction now, at least the areas under our control…… There are about nine or 10 islands there, we have to fortify……I must build bunkers there or houses and provisions for habitation.”
The defense secretary Delfin Lorenzana has confirmed that President Duterte’s order by saying, “The president wants facilities built such as barracks for the men, water [desalination] and sewage disposal systems, power generators (conventional and renewable), lighthouses, and shelters for fishermen…”
The reactions from other countries including China are yet to emerge in response to this Duterte land grab.

Geopolitical tension intensified between the United States and Russia as the United States attacked the Assad regime by launching 59 tomahawk cruise missiles targeting airports in response to an alleged chemical weapon attack by the Assad regime. This week, the Assad regime reportedly used chemical weapons that claimed the life of 80 people including women and children in the rebel-held town of Khan Sheikhoun in Idlib province. Speaking at the Mar-a-Lago resort in Palm Beach Florida, President Trump confirmed the ordering of the missile launches. He said, “I ordered a targeted military strike on the airfield in Syria from where the chemical attack was launched…..It is in the vital national security interest of the US to prevent and deter the spread or use of deadly chemical weapons.” US missile attack reportedly destroyed 14 Syrian jets and destroyed much of the air facility in the area. Pro-government journalists in Syria have warned that actions like these will only boost the morale of the terrorists.

This action taken by the Trump administration puts it in direct conflict with Russia, who gave a different narrative of the situation. According to Russia, the Syrian government attacked a rebel-held arms depot in the area, which contained the chemical weapon; Sarin nerve agent.
The US Secretary of State warned against reading too much into the attack as according to him, the stance of the current administration is Syria remains unchanged and he insisted that the missile attacks only show that the President is willing to take decisive actions when called for.
While most of the US lawmakers lauded the President’s action, some still remain skeptical and feel that it is plausible that the Russian narrative could be true. Prominent senators like Rand Paul, Ted Lieu condemned the President’s action as he did not seek congressional approval before the attack. Senator Thomas Massie said that it was not in the interest of the Assad regime to use chemical weapons and believes that the Russian narration might be true.

Russia had already warned the United States on military actions against Assad regime saying that it will have negative consequences. Next few weeks would see a flurry of activities on this front and the attack has triggered a lot of uncertainties.

The UK gilts traded flat Tuesday, showing modest gains, following the country’s lower-than-expected construction PMI released today. Also, investors are eyeing the February manufacturing production data, scheduled to be released on April 7 for further direction in the debt market.

The yield on the benchmark 10-year gilts, which moves inversely to its price, hovered around 1.05 percent, the super-long 30-year bond yields fell nearly 1 basis point to 1.64 percent while the yield on the short-term 2-year traded flat at 0.10 percent by 10:10 GMT.

The seasonally adjusted Markit/CIPS UK Construction Purchasing Managers’ Index (PMI) dropped from 52.5 in February to 52.2 in March, to signal the joint-slowest upturn in overall construction output since the current period of expansion began in September 2016.

“Survey respondents noted that the resilient economic backdrop and receding Brexit-related anxieties have helped to stabilize client demand after the disruption to development projects last summer,” said Tim Moore, Senior Economist, IHS Markit.

The Reserve Bank of Australia (RBA) will continue to remain on hold at Tuesday’s board meeting where the official cash rate will remain parked at 1.5 percent. Future markets have priced in only a 2 percent chance of a cut and no chance of a rise. The RBA has expressed an unwillingness to lower official interest rates further, given the financial stability risks associated with the housing market and high household debt levels.

The central bank also remains caught between underlying inflation that is below target and reaccelerating house prices. With economic growth under its potential and inflation below the target band, the RBA has left the door to an interest rate cut ajar. There are growing doubts about the ability of labour market growth to boost wages growth and inflation.

Capital city dwelling prices across Australia rose by 1.4 percent for the second consecutive month in March. Growth in house prices has outpaced that of unit prices over the year to March. Nationally house prices rose 13.4 percent, outpacing growth in unit prices of 9.8 percent.

The Australian Prudential Regulation Authority (APRA) has again tightened measures on investor lending, albeit rather lightly. The measures are designed to ensure financial stability and are likely to result in a slowing in investor activity and a moderation in house price growth, over time. If measures from APRA are successful in lowering financial stability risks, in time it could potentially lower the hurdle for an interest rate cut from the RBA.

Building approvals posted a strong increase in February, beating expectations of a decline. House prices were up strongly in March, yet again. Detached housing approvals were up 5.7 percent m/m, reversing two months of falls. The CoreLogic capital city house prices rose 12.9 percent y/y in March compared with 11.7 percent y/y in February. This is the strongest annual price growth since the first half of 2010. Data suggest house price growth has not yet peaked, despite the efforts of the regulators.

“RBA will leave its key rate unchanged tomorrow morning. Rising property prices are worrying the Australian central bankers but are unlikely to cause any measures any time soon,” said Commerzbank in a report.

AUD/USD is extending its three-day losing streak after the Aussie remains dented by worse-than-expected Australian retail sales data. The pair is currently holding strong trendline support at 0.76 levels. Technical indicators support downside, RSI and Stochs are biased lower. Price action has broken below 50-DMA and is on track to test 200-DMA at 0.7551.

European Bonds and Credit, spread tightening across the board

Yesterday saw some semi-core and peripheral spreads tightening pretty much across the board versus core EGBs, with especially PGBs putting in a strong performance, outperforming 10yr Bunds by more than 10bp. GGBs bucked the tightening trend after ECB’s Stournaras told Greek MPs that the bailout was at a “critical” stage, and that any future PSPP-eligibility of GGBs would be contingent on the completion of the bailout review and a legally binding agreement over specified medium-term debt relief measures (which doesn’t seem imminent to say the least).

A remarkable feature of yesterday’s price action was the further widening of Bund ASW spreads, with the futures-implied 10yr Bund ASW hitting 50bp. It now exceeds our estimate of fair value – which is based off 2s10s, BTP/Bund spreads, 6M Libor-repo spreads and implied volatility – by more than 10bp. ECB weekly data on PSPP showed that purchases slowed marginally to €16.9bn in the week ended 10 February from €17.3bn the week before.

Corporate and covered bond purchases also slowed, but the overall €20.1bn bought across all asset classes still leaves the ECB on track to buy more than €80bn in February. Today’s main event will be Fed Chair Yellen’s testimony to the Senate Banking Panel. If she want’s March to be a live meeting as other Fed officials have suggested it is, she will have to adopt a more hawkish tone beyond the usual reference to data dependency. Currently we calculate a market implied probability of around 17% for March rate hike. Supply. No EGB supply is scheduled for today.

In SSA space KfW has used this opportunity to announce the launch of a new 10yr KfW EUR benchmark. Wide Bund ASWs currently render the agency relatively cheap versus the sovereign. The KfW 3/26 which was launched last year currently trades at a pick-up of 30bp versus the DBR 2/26 – its widest level to date. We think these levels are starting to look attractive for switches into KfW. Not only do our models for the Bund ASW suggest that it is currently much too wide but we also think that the Bundesbank is at the point where it has to increasingly look into the option of sub-depo buying – and also agency- or regional bond alternatives to Bunds.

Eurozone factory growth hits six-year high in March as growth accelerates in Germany, Italy and France. IHS Markit’s final manufacturing Purchasing Managers’ Index for the eurozone rose to 56.2 in March, the highest since April 2011, from 55.4 in the previous month. The reading was in line with expectations.

An index measuring output, which feeds into a composite PMI due on Wednesday, rose to a near six-year high of 57.5 from 57.3. The flash estimate was 57.2. A sub-index measuring delivery times fell to 41.9 from 43.9, its lowest reading since May 2011. New orders surged despite prices charged rising faster than in any month since June 2011.

Factories across the euro zone struggled to keep up with demand last month. The survey is also signalling the highest incidence of supplier delivery delays for nearly six years. “These delays send warning signal about rising inflationary pressures, as busy suppliers are often able to hike prices,” said Chris Williamson, chief business economist at IHS Markit.

March saw eurozone manufacturing employment increase for the thirty-first consecutive month. Price pressures remained elevated at the end of the opening quarter. Manufacturers’ purchasing costs rose at a rate close to February’s 69-month high, leading to the steepest increase in factory gate selling prices since June 2011.

“Euro zone manufacturing is clearly enjoying a sweet spell as we move into spring, but it is also suffering growing pains in the form of supply delays and rising costs,” said Chris Williamson, chief business economist at IHS Markit.

When oil price bottomed around $27 per barrel last year in February, many predicted a major reversal and the dark days for producers to be over. Yet, more than a year after the bottom, the oil market is struggling to cope up with the supply glut and lack of clarity. A deal by OPEC and 11 participating non-OPEC countries to reduce production by 1.8 million barrels per day has failed to soothe the market concerns. Every day, contrasting forecasts continue to appear in the media suggesting a spike in oil price or a tumbling to the bottom once again. So, how can you know which side to take? We at FxWirePro believe (despite our guidance and forecasts) that readers should make up their own views (a must, even if they are trading on our calls) based on facts. Here are the key factors that one needs to watch to understand the market dynamics that might lay ahead,

US production has been recovering since it bottom in July last year. Though the country is producing lesser amount crude compared to the pre-oil-crush levels, production has increased by 719,000 barrels since July. The number of active oil rigs operating in the US has more than doubled since it bottomed around in May last year. It is currently at 662 and the production is at 9.147 million barrels per day.
OPEC deal is likely to serve as the most crucial factor to watch out for. On May 23rd, OPEC ministers are scheduled to meet at the Vienna headquarters to decide on the deal extension. Mark your calendars for that date. We expect the OPEC and participating non-OPEC countries to extend the current production cuts deal.
The level of inventories would also play a crucial role in price discovery. Declining inventories would invariantly result in a higher crude oil price. As of now, inventories in the US rests at 533 million barrels, the highest ever. Recently, the gasoline inventory has come down but still higher at 239 million barrels when compared to historical data. The OPEC deal has pushed the oil market to backwardation but the inventory is yet to come down significantly.
Demand has been growing at a rapid pace since 2016 thank to lower oil price and contribution from countries like India and China. But experts expect higher demand this year from the United States as record numbers of cars and trucks were sold during the winter and holiday season.
New projects would play a very significant role for future prices. Recently Goldman Sachs have warned that many projects adopted during the $100 per barrels crude oil are set to come online this year and in the next few and would lead to higher than expected production. On the other hand, International Energy Agency has warned that lower level of investments due to 2014 oil price crash and continued lower price would eventually lead to supply constrain and eventually higher oil price.
These five fundamentals would be crucial in determining oil price in the months and quarters to come. WTI is currently trading at $50.6 per barrel and Brent at $2.8 per barrel premium.

The betting market is underestimating the possibility of a Le Pen victory in the upcoming French election. The market is pricing 63-67 percent chance of an Emmanuel Macron presidency, compared to 22-25 percent chance for a Marine Le Pen victory. We think that is largely due to the polling. All the polls are predicting a Le Pen win in the first round on April 23rd and a Macron victory in the second round with a huge margin of 62-38 percent. Then, why do we think that possibility of a Le Pen win is mispriced? Here are some points to note,

In 2012 election, Front National Leader Marine Le Pen was not so much of dazzling political figure compared to the 2016 election and many people associated her with her father’s more extreme politics. Yet, she received almost 18 percent of the votes in the first round and came in third place.
More French are disgusted with establishment politics that they were during 2012 election.
The market is underestimating the commitments of Le Pen voters. While Polls show a Macron win, they also show that 95 percent of Le Pen supporters passionately back her compared to just 2/3rd for Mr. Macron. Le Pen voters are more likely to head to the polls to cast their votes than any other parties. Almost 37 percent of the French people are planning to abstain from this year’s election even if it helps Le Pen.
French people who are backing other candidates that the above two are more reluctant to back Macron or Le Pen in the second round.
According to Pew Research Center’s 2016 polls, 62 percent French have unfavorable views towards the European Union.
All polls indicate terrible performance by established parties like the incumbent President Francois Hollande’s Socialist party, which means that the anti-establishment wind is blowing strong and Mr. Macron is the establishment candidate among the duo.
Madame Le Pen is the only prominent female candidate in this year’s French election and that needs to be counted too.
We, expect the betting market to correct the odds sharply after the first round outcome. If le Pen secures 32-35 percent in the first round, it is more likely to be a Le Pen Presidency than not.

Spanish seasonally-adjusted retail sales remained unchanged in February, data from the National Statistics Institute (INE) showed on Friday. The unchanged reading compared to a revised 0.1 percent drop a month ago.

Data missed expectations for a 0.9 percent rise. January’s 0.1 percent drop which was revised from a previously reported growth of 0.1 percent marked the first time Spanish retail sales shrank after 29 straight months of expansion.

On an unadjusted basis, retail sales fell 3 percent annually, after decreasing 0.2 percent in January. Month-on-month, retail sales increased for the first time in three months. Sales gained 0.2 percent in February, reversing January’s 1.2 percent decrease. Food sales grew 0.3 percent, and non-food sales increased 1.1 percent in February.

Data from German Statistics office, Destatis showed Friday that Germany’s retail sales in February unexpectedly fell by real 2.1 percent year-on-year, reversing January’s revised 2.7 percent increase.

Meanwhile, month-on-month, Germany’s retail sales were up 1.8 percent after declining 1 percent in January. The monthly growth beat analysts’ forecasts for a 0.7 percent increase. A similar faster growth was last seen in August 2014.

Mixed data on Friday sent mixed signals about the health of this sector of Europe’s largest economy. A breakdown of the year-on-year data showed sharp drops in sales of food, drinks and tobacco as well as clothing, shoes and other items such as books and jewelry.

The volatile indicator is often subject to revision, the Federal Statistics Office said. The data follows GfK survey which showed German consumer sentiment unexpectedly fell to its lowest level in five months going into April, partly due to people’s concerns that rising inflation will erode their purchasing power.

The UK gilts remained subdued Friday as investors largely shrugged off lower-than-expected fourth quarter gross domestic product (GDP) and business investment data.

The yield on the benchmark 10-year gilts, which moves inversely to its price, jumped 1-1/2 basis points to 1.13 percent, the super-long 30-year bond yields climbed 1/2 basis point to 1.71 percent while the yield on the short-term 2-year traded nearly 1 basis points up at 0.11 percent by 09:10 GMT.

On a yearly basis, UK’s GDP climbed 1.9 percent in the fourth quarter instead of 2 percent expectations. In 2016, the economy expanded 1.8 percent as previously estimated, versus 2.2 percent in 2015.

Gross domestic product climbed 0.7 percent sequentially, unrevised from the second estimate released on February 22. The third quarter growth was revised down by 0.1 percentage point to 0.5 percent.

Further, in the fourth quarter, business investment dropped 0.9 percent to GBP43.5 billion, data from ONS showed today. Gross fixed capital formation increased by 0.1 percent to GBP78.1 billion in the fourth quarter.

The German bunds slid Friday, after reading wider-than-expected decline in the country’s unemployment rate during the month of March. Also, investors remain keen to watch the Eurozone’s March consumer price inflation, scheduled to be released shortly today.

The yield on the benchmark 10-year bond, which moves inversely to its price, rose 1 basis point to 0.34 percent, the long-term 15-year bond yields rose 1/2 basis point to 0.54 percent and the yield on the short-term 2-year bond traded 1 basis point higher at -0.73 percent by 08:20 GMT.

German unemployment unexpectedly dropped to a new record low in March as Europe’s largest economy powered ahead.

The jobless rate fell to 5.8 percent, from 5.9 percent, and the number of people out of work slid by a seasonally adjusted 30,000 to 2.6 million, data from the Federal Labor Agency in Nuremberg showed on Friday. Economists in a Bloomberg survey forecast no change in the unemployment rate and a 10,000 decline in the number of people seeking work.

“The job market continues to develop favourably. With the onset of spring activity, the number of unemployed people has declined, employment growth is continuing unabatedly, and demand for new employees continues to be high,” Bloomberg reported, citing Detlef Scheele, Board Member, German Labor agency.

The New Zealand bonds closed a tad higher at the time of closing, following a drop in the country’s business confidence. Also, investors are curiously eyeing the GlobalDairyTrade (GDT) price auction, scheduled to be held on April 5 for detailed direction in the debt market.

The yield on the benchmark 10-year bond, which moves inversely to its price, fell 1 basis point to 3.21 percent at the time of closing, the yield on 7-year note also slipped nearly 1 basis point to 2.80 percent and the yield on short-term 2-year note also traded 1 basis point lower at 2.16 percent.

New Zealand’s business confidence eased in March. However, other survey indicators remain fighting fit. Firms are optimistic about their own businesses, and still, want to hire and invest. The survey continues to point to solid growth.

The construction sector remains optimistic but showed a large backward step across some survey metrics. Inflation expectations continue to nudge up. Investment intentions eased from +22 to +21; that’s still a good tempo. Employment intentions are still pacing themselves. A net +23 are looking at hiring more staff, down 1 point. Profit expectations eased from +24 to +23, led lower by construction.

According to data released by the South African Reserve Bank (SARB) on Thursday South Africa’s money supply and private sector credit grew at weaker pace in February. M3 grew 6.63 percent year-on-year in February, slower than the 7.91 percent increase in the previous month. Money supply growth rate missed expectations to remain at 7.9 percent.

Private sector credit climbed 5.26 percent annually, following a 5.52 percent rise in January. The annual growth was also weaker than the expected 5.3 percent.

The South African Reserve Bank will announce the Monetary Policy Committee’s decision on repo rates at 1300 GMT and analysts largely expect the central bank will keep benchmark lending rates on hold at 7 percent at its policy announcement.

South Africa’s rand firmed against the dollar early on Thursday ahead of the central bank’s interest rates decision, but looked vulnerable to speculation of an imminent cabinet shake-up that could see Finance Minister Pravin Gordhan removed.

USD/ZAR was trading at 12.87 at around 1050 GMT, down 1.21 percent on the day. The pair hit near 3-week highs of 13.1578 on Wednesday’s trade. Momentum studies on daily charts are neutral and the pair is hovering around 20-DMA at 12.8715. A decisive close below could see further drag lower.