US Treasury yields push higher and curve flattens, sending 2s10s to most inverted in over forty years, producing strong economic recession signal. US leading index falls for eight consecutive month

Friday saw an uneventful end to the trading week, with a modest gain in US equities. US Treasury yields continued to push higher and with a flatter curve, taking the 2s10s spread to the most inverted in over forty years.  Changes in currency markets were modest. The NZD closed up for the fifth consecutive week at around 0.6150, after taking another peek above 0.62 on Friday night. Oil fell and capped off a poor week, cumulating to a 10% fall in WTI crude.

Friday ended with another push higher in US Treasury yields, with the 10-year rate up 6bps on the day to 3.83%, well up from the mid-week low of 3.67% and up only slightly (less than 2bps) for the week overall – the theme last week being one of consolidation following the significant reaction to the big downside miss to the US CPI the previous week. Of note, there was a larger reversal of short-end rates, with the 2-year rate up 8bps on the day to 4.53% and up 12bps for the week. This took the 2s10s yield spread to minus 70bps, the most negative in over forty years and a strong signal of economic recession next year.

Boston Fed President Collins was the latest FOMC member to continue the hawkish rhetoric, saying that there was no clear evidence that inflation was coming down and a 75bps hike next month “is still on the table, I think it’s important to say that”. Over the weekend, Atlanta Fed President Bostic offered the most dovish take we’ve seen in recent weeks, saying that on his forecast 75-100bps of additional tightening “will be sufficient” to rein in inflation.

In US data, the Conference Board’s leading index fell 0.8% m/m in October, the eighth consecutive monthly fall and another reliable indicator of pending economic recession. US existing home sales fell for the ninth consecutive month, falling 5.9% in October, taking the cumulative decline since January to about 32%.

UK data showed a small lift in consumer confidence off a deeply depressed level and a small lift in ex fuel retail sales, also off a very weak base.

Japan CPI inflation hit a fresh forty year high of 3.7% y/y and the core measure which excludes fresh food and energy rose to 2.5%. While inflation continues to run well above target, the BoJ sees the lift as due to cost-push inflation and therefore transitory. Governor Kuroda continues to run the line that he wants to see higher wages inflation, which would put CPI inflation on a more sustainable path, and remains adamant that the Bank’s ultra-easy policy stance is appropriate.

ECB President Lagarde repeated the mantra that the policy rate might need to head into restrictive territory to drive inflation back down to target, even given the rising risk of recession, “withdrawing accommodation may not be enough”. Bloomberg reports that momentum is lacking for another aggressive 75bps hike next month and the ECB may step down to a 50bps hike, according to its sources, as long as this month’s inflation reading doesn’t produce another upside surprise. Against the grain of higher US rates, European yields both short and long end, were down slightly.

Higher US rates gave some broad-based support to the USD Friday night, reversing some weakness during Asian trading, so the net gain in the DXY index of 0.2% was modest. Ahead of the USD’s recovery, the NZD took another look just above 0.62, before closing the week around 0.6150, marking the fifth consecutive weekly gain. The AUD peaked around 0.6730, before closing the week around 0.6670. NZD/AUD was stronger, returning to the 0.92 handle seen earlier this month.

Oil prices continued their weak run, with Brent crude down 2½% on Friday to USD87.60, taking its weekly drop to 8.7%.  WTI crude fell even more, down 10% for the week to just over USD80. Oil looks over-supplied in the short-term, evidenced by the front-month spread moving into contango (upward sloping curve) and traders are nervous about the surging COVID cases in China which might crimp near-term demand. The big drop in oil prices, to the extent it feeds into retail prices, should support lower headline inflation into year-end.

The domestic rates market was quiet. NZGBs were marked 3-4bps higher across the curve. The swaps curve showed a clear flattening bias, with the 2-year rate up 8bps to 4.97% and the 10-year rate up 3bps to 4.40%. Focus this week turns to the RBNZ MPS on Wednesday, where 15 of 21 economists surveyed by Bloomberg think the Bank will hike by 75bps to 4.25%, which would be the largest ever hike since the OCR was introduced in 1999. The remaining 6 surveyed think the Bank will stick with a 50bp hike. The OIS curve prices +65bps for the meeting.

The day and week ahead look uneventful, with the US Thanksgiving holiday on Thursday making it a short week. Apart from the RBNZ MPS, the key focus for the domestic market, there will be some interest in RBA Governor Lowe’s speech tomorrow, global PMIs mid-week and the minutes of the FOMC’s early-November meeting.