BlueBay AM: Lower volatility in markets & the White House

BlueBay AM: Lower volatility in markets & the White House

22 januari 2021

Verenigde Staten
Amerikaanse vlag.jpg

By Mark Dowding, CIO at BlueBay Asset Management

Volatility edges lower as markets breathe a sigh of relief that Biden’s inauguration was ratified without disruption. 

As the 46th President sets to work, we expect a very different tone from the White House in the months ahead, though it will be a few weeks before confirmation hearings are completed and the incoming administration finalises the open appointments which need to be filled. 
 
From this point of view, we sense that those expecting very rapid progress with respect to the latest fiscal support package could be a little disappointed in the short term – even if we do continue to sense that more ambitious plans are building in the medium term regarding future initiatives on infrastructure spending, clean energy, the environment and other initiatives designed to deliver an agenda of transformation over the next few years.
 
In this context, we believe that US Treasury yields may continue to grind sideways for the time being, before eventually resuming their climb higher on reflationary hopes.
 
Viral impacts
 
In the short term, the spread of Covid continues to suggest scope for data surprises to the downside over the next few weeks. However, this week’s US housing market numbers and the Philli Fed survey were notably robust. 
 
Across the Atlantic, the mood seems more downbeat and isn’t greatly helped by the slower-than-hoped for progress on delivering vaccinations. Against this backdrop, there was some disappointment that comments from Lagarde seemed less dovish than some may have hoped for at this week’s ECB meeting, suggesting that the full extent of the PEPP purchases may not be used if things evolve along a more optimistic trajectory. These comments saw Bund yields tick higher, but we would caution against reading too much into this.
 
The Eurozone economic outlook continues to look materially weaker than the US by comparison, and with inflation stuck materially below target, we don’t see much scope for the ECB to draw back on stimulus any time soon. 
 
Over the medium term, this leads us to believe that the spread between US and German yields is set to grow as we move through the year, though we think there may be better levels to buy Bunds and sell Treasuries in the short term and so are happy with a flat view on rates for the time being.
 
Italian politics
 
Elsewhere in Europe, Prime Minister Conte survived a confidence vote in Italy, though he continues to maintain only a very slim majority in the Senate. President Mattarella has kept silent so far and would like to see the government work to increase its majority, by changing the Prime Minister if necessary, so that it has a big enough majority to be able to govern effectively. New elections remain an unlikely tail risk, but for now it seems that Italian BTPs have struggled to gain much from Conte’s reprieve. 
 
Meanwhile, demand for yield in EUR fixed income continues to benefit spreads, albeit elevated corporate bond supply in January has limited the market’s ability to rally very much. With EUR40 billion of issuance already completed in European investment-grade debt so far in 2021, it has been a relatively busy start to the year, with an issuance total of almost double what had been projected in December.
 
Risk appetite in emerging markets (EM) has been somewhat better over the past few days, following a slightly bumpy start to the new year. The recent rally in the dollar seems to have lost momentum and with US yields relatively stable, this has created a more favourable backdrop at a time when it appears that asset allocation flows are helping EM assets somewhat. 
 
Growth data out of China remains robust and this continues to help underpin commodity prices. This is benefitting exporters and those exposed to the China growth momentum. 
 
The incoming Biden administration is anticipated to benefit a number of relationships with EM countries and we generally think that local rates, credit and EMFX can trade somewhat better, as long as US yields and the dollar do not resume their rise.
 
Looking ahead
 
A backdrop of somewhat lower volatility should remain relatively beneficial for risk assets. Generally speaking, there are now relatively few major macro risk events in the upcoming calendar and this may see investors unwind hedges and continue to put cash to work – even if they feel somewhat reluctant to do so and valuations are much less compelling than was the case some months ago. 
 
Medium-term hope for more robust growth later in 2021 remains intact, while in the short term, we can’t see policymakers doing anything to row back from stimulus at a time when the pandemic is still raging.
 
Further ahead, we continue to pay particular attention to developments around fiscal policy. Although the near-term focus in the US is on the USD1.9 trillion plan Biden announced last week (and which we think will be watered down to around USD1 trillion, with an eventual passage in April), the more significant developments could come with respect to further bills on infrastructure spending and environmental initiatives in the months to follow. Fully costed, the total of these plans could be a massive USD5-7 trillion all told and although these won’t be adopted unchallenged, we think that fiscal spending will ultimately ramp-up in the second half of 2021 – even as growth is strengthening as the pandemic fades. This could lead to a more material rise in US yields and enthusiasm for reflation trades come the summer. 
 
We also believe that the UK Debt Management Office is considering lengthening the duration of the debt it issues – although this may be contingent on the Federal Reserve agreeing to lengthen the maturity of the assets it purchases, in order to ensure that yields do not rise too far and lead to an unwanted or premature tightening in financial conditions. But as things stand, this remains a topic for the future. 

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