By Enrique Diaz-Alvarez, Chief Risk Officer at Ebury
The central bank swung clearly to our view at its meeting last week, warning of 50bp hikes for as long as is necessary and forcing European rates higher across the curve. The Federal Reserve was also hawkish, and the Bank of England maintained its unblemished track record of muddled messaging and general confusion. The euro benefited the most, while sterling, emerging market currencies and risk assets generally reacted badly to the news that the two most important central banks continue to focus exclusively on reining in inflation back to targets.
The week before Christmas tends to be on the dull side in financial markets, as traders wind down for the year. In fact, little news of note will come out next week, beyond the PCE inflation report in the US on Friday. However, the market is still digesting the hawkish surprises from last week’s central bank meetings so we still expect an interesting week in currency markets.
The ECB sent markets an unmistakably hawkish message last week, validating our view that there was a massive gap between expectations of future hikes and the inflationary realities in the Eurozone. President Lagarde warned of 50bp hikes, harsher and earlier quantitative tightening, and a higher terminal rate for the ECB.
Another positive factor for the euro were the December PMIs of business activity, all of which improved measurably from the previous month. The worst-case scenarios for an energy crisis look increasingly remote, and China’s pivot away from zero-COVID policies only adds to the bullishness (relatively speaking) on the Eurozone economy. However, the common currency has already had a blistering rally of over 10% since its late-September low and perhaps a pause is to be expected in the lead up to the Christmas holiday.
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