Thursday, 17 November 2016

December hike may get U.S. rates to neutral setting, Fed's Bullard

One U.S interest rate increase, possibly next month, may be enough to bring Federal Reserve's rates to a "neutral setting", one of the central bank's policymakers, James Bullard, said on Wednesday.

Financial markets expect the Fed to raise rates next month and have begun pricing in a much more aggressive run of rate increases after U.S. President-elect Donald Trump's promised to boost the U.S. economy with spending on infrastructure.

"A single policy-rate increase, possibly in December, may be sufficient to move monetary policy to a neutral setting," Bullard said at a UBS conference in London.

The jump in the U.S. dollar and government bond yields since last week's election remained within the range of the last year, he said, and rising in inflation expectations had eased some of the Fed's concerns about overly low inflation.

"Equities and foreign exchange rates have been re-priced, but are well within the experience of the past year."

"There were a lot of predictions that if the election went the way of Republicans and President-elect Donald Trump, then there would be great deal of volatility, but that has not materialized so far," said Bullard, who is currently a voting member of the U.S. central bank's rate-setting committee.

Bullard is considered one of the Fed policymakers more likely to back rate hikes. But he stressed that while rates would go up if the U.S. economy improves, the era of low global borrowing costs was not expected to come to an abrupt end.

"We have a low interest rate regime and it is really not expected to turn around and mean revert," he said.

Japan and Europe

Investors resumed the post-U.S. election trade of selling bonds and buying stocks on Wednesday after a pause earlier this week, albeit less aggressively, with Japan's 10-year bond yield hitting its highest since February.

The dollar was in demand again too, rising to a one year-high against a basket of currencies as the euro hit a nine-month low of $1.07, and to an eight-year peak against the China's yuan.

U.S. President-elect Trump's plans to cut taxes and boost infrastructure spending would boost economic activity while his proposals to deport illegal immigrants and impose tariffs on cheap imports are seen driving inflation higher.

That prospect has given rise to expectations that U.S. interest rates will rise faster than previously anticipated, boosting the dollar.

As the Bank for International Settlements warned on Tuesday, a stronger dollar poses risks for global markets. But for now, investors are enjoying the ride, meaning stocks and the dollar are in favour at the expense of bonds.

"With 10-year Japanese yields briefly edging back above zero, the market will at some stage focus on whether the Bank of Japan will defend the zero level, especially if the global yield sell-off gathers pace over the coming weeks and months," Deutsche Bank's Jim Reid said in a note on Wednesday.

The BOJ announced in September it would cap the benchmark 10-year yield at zero as part of its long-standing battle against deflation and anaemic growth.

"It would be a strange decision to abandon the new policy so soon after announcing it, so assuming global yields remain elevated they may be forced to buy more (bonds) than they thought when the new scheme was announced," Reid said.

Japan's 10-year yield rose to 0.03 percent a nine-month high. Comparable U.S. Treasury yields rose 3 basis points to 2.27 percent, edging back up toward Monday's 11-month high of 2.302 percent and up from around 1.86 percent before the election.

U.S. interest rate futures  are pricing in an 85 percent chance of a rate hike in December, compared to 75 percent before the election.


In currency market trading on Wednesday, the dollar rose 0.3 percent against the yen to a five-month high of 109.62 yen JPY= and a one-year high of 100.32 on an index basis .DXY.

Sharp gains in U.S. bond yields have drawn investors to the dollar, and the dollar index is just 0.5 percent away from its highest level in more than 13-1/2 years.

The yuan  weakened to 6.8703 to the dollar, its lowest level since December 2008.

"The narrative on the dollar is strong," said Simon Smith, chief economist at FXPro.

"A move higher in interest rates next month is now a near dead cert, with the implied path for rates next year also moving higher and providing further support for the dollar."

In equities, the FTSEuroFirst index of leading 300 European shares .FTEU3 followed Wall Street's lead from the previous day and was up 0.2 percent, underpinned by commodity-related stocks.

A 5 percent fall in Bayer , however, weighed on Germany's DAX which fell 0.2 percent. The drugmaker fell after a placement of 4 billion euros of mandatory convertible notes.

MSCI's broadest index of Asia-Pacific shares outside Japan S rose 0.2 percent, bouncing back from a four-month low touched earlier this week, while the yen's slide toward 110 per dollar helped lift Japan's Nikkei by 1.1 percent .N225.

The dollar's strength has fanned fears investors could shift funds to the United States from emerging markets. Emerging market stocks .MSCIEF, which had fallen 7 percent in the four sessions to Monday, also extended gains for a second day on Wednesday.

On Wall Street, the Dow Jones industrial average  rose 0.29 percent to a record closing high while the S&P 500  gained 0.75 percent. Since Trump's unexpected victory last week, U.S. shares have rallied while U.S. bond prices tumbled, pushing up their yields sharply.

In commodities gold was steady at $1,228 per ounce, not far from a 5 1/2-month low of $1,211.8 seen on Monday, while an oil industry report that showed an unexpected build in U.S. crude stocks helped take this week's shine off oil prices.

Brent  futures, the global benchmark, fell 0.8 percent to $46.55 per barrel

Reference: Marc Jones,

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