Risk appetite improves as the new week begins. EUR supported by strong German inflation data. Should see a more hawkish pivot from the RBA later today

There hasn’t been a great deal of news but the new week has begun with a classic lift in risk appetite, which sees higher equity markets, higher global bond rates, higher commodity prices and higher commodity currencies alongside a weaker USD and soft safe haven currencies. The AUD has outperformed, lifting 1%.

Following the sharp rally in US equities late Friday, the new week has seen some more positive price action, with the S&P500 currently up over 1%. Still, the market is on track to record a historically weak January, with the index down more than 6% for the month. Tech stocks are leading the charge, with the Nasdaq index up 2½% and if this is sustained into the close, then the index would avoid recording a double-digit percentage drop for January.

Global rates have pushed higher, with 2 and 10 year Treasury yields up around 2bps for the day. The 10-year rate traded over 1.81% overnight, but is currently at 1.79%.  European 10-year rates are up in the order of 5-6bps, not helped by higher inflation data (see below).  Italy has been an exception, with the Italy-Germany 10-year spread narrowing after the Italian Presidential election result we reported on yesterday, which removes some political risk overhanging the country.

CPI inflation data in January for Germany were much stronger than expected, up 0.9% m/m and 5.1% y/y, beating expectations by 0.8 percentage points. The annual figure moderated from 5.7% y/y as last year’s increase in VAT dropped out of the calculation. While the figures were driven by higher energy costs, core inflationary pressure remained strong. CPI inflation for Spain was also much higher than expected, at 6.1%. Euro area data will be released tomorrow night and will now be stronger than the prevailing consensus, with the data coming ahead of the ECB’s meeting later this week. GDP data for region was slightly softer than expected at 0.3% q/q for Q4.

In the US, the Chicago PMI surprisingly lifted to 65.2 in January, going against the grain of weaker regional surveys, but still setting the scene for a softer ISM manufacturing survey tonight.

San Francisco Fed President Daly claimed that the Fed was not behind the curve and that she backs a gradual pace of interest rate increases. Policy was not on a preset course. She said that you don’t want to over react as fiscal support is rolling off, so monetary policy isn’t the only game in town. Kansas City Fed President George looked to be a fan of more action on the Fed’s balance sheet than rates as a means of tightening monetary policy, on grounds of financial stability concerns, “…the potential costs associated with an excessively large balance sheet should not be ignored”.  She added that more aggressive action on the balance sheet could allow for a shallower path for the policy rate.

Oil prices continue to lift, with Brent crude breaking up through USD91 to record a fresh seven-year high. A little bit more and my local gas station will crack the $3 mark for 98 octane, currently just 4 cents shy of that (for our US readers, that is per litre, not gallon so that’s about USD7.50 per gallon).

After tumbling 2½-2¾% last week, the positive risk backdrop is helping the NZD and AUD recover some lost ground, up 0.4% and 1% respectively to start the new week, up to 0.6575 and 0.7065.  With the better performance by the AUD, the NZD/AUD cross has printed a fresh six-month low of 0.9308.  As well as month-end flows, some closing of short AUD positions ahead of the RBA’s policy update this afternoon could be at play.

The USD has pulled back from its cyclical high recorded at the end of last week, with the BBDXY index down 0.5%. The euro was supported after the strong Germany inflation data and the positive Italian election result will be helping as well for the 0.6% gain in EUR to 1.1220. In the UK PM Johnson remains under the pump following the Partygate scandal and his role as leader remains tenuous. Investors aren’t too worried and GBP is up 0.25% to 1.3435.  NZD/GBP has recovered to about 0.49.

The Auckland anniversary holiday made for a quiet day for the domestic rates market but the bias was for slightly lower rates on the back of the Friday night rally in US Treasuries (ignore the rates in the tables, with the pricing source indicating no change).

After NZ trade and Australian retail sales data are out of the way, focus will turn to the RBA’s policy update later this afternoon. In a perfect world, the RBA would admit its forecasting has been hopeless of late, end QE and signal an almost immediate start to a rate hike cycle to at least get policy back to neutral as soon as possible. But we’re dealing with a central bank which for several months has missed the obvious inflationary signals from elsewhere and ignored the message of the market, arguing that Australia is different. The best we can probably hope for is an end to QE and a bringing forward of projected rate hikes, maybe some admission that a hike could occur late this year or early next year.

Key global releases tonight include Canada GDP and the US ISM manufacturing survey, which is expected to show further slippage.