Bonds and stocks rally

A drop in oil prices – Brent crude is down at around $106 per barrel – on the back of reports that a US-Iran deal may be in the offing contributed to a decline in bond yields, reversing Tuesday’s rise in yields, and a decent rally in stocks. The “risk on” mood in markets weighed on the dollar though its losses were very modest. EURUSD and GBPUSD are trading at about $1.1625 and $1.3435 respectively this morning, while EURGBP is hovering just below £0.8650, now back at the levels that prevailed immediately prior to the recent elections in the UK.

UK government bonds outperformed, helped additionally by softer than expected UK inflation data for April, with yields falling by almost 15bps across the curve (10-year yields moving back below 5% in the process), while German and US yields posted sizeable declines of the order of 8-12bps. In equity markets, European stocks outperformed, chalking up gains of 1.5% to 2.0%, while the S&P 500 closed about 1% higher on the day.

Bank of England rate hike expectations eased after its Governor, Andrew Bailey, noted that “effectively we’ve tightened policy because we removed the expectation of a (rate) cut,” which has contributed to a sharp rise in market interest rates since the war in Iran commenced at the end of February. He added that this gives the central time to further “assess” the fall-out from the war, noting that “we’ve got a somewhat softening picture for growth, we’ve got a somewhat softening picture for the labour market.” About 50bps of hikes by year-end is now priced in, down from over 60bps earlier in the week.

Reuters yesterday reported that the case for an ECB rate hike in June is “nearly sealed”, but the central bank is likely to be “noncommittal about any further move” beyond June as it seeks to ​”temper bets for a quick follow-up step in July”, quoting four central bank sources. Market rate expectations eased with about 65bps of hikes now priced for this year, down from around 75bps.

Looking to the day ahead, flash PMIs for May are published in the Euro area, US and UK. The regular weekly jobless claims and housing starts are due in the US, while consumer confidence, labour costs and construction output are scheduled in the Euro area. The European Commission publishes its Spring Economic Forecasts.