Corporate Treasury Weekly: expect more defensive FX positioning as the summer break nears

16 July 2021

Giles GaleHead of European Rates Strategy

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Breaking down trending trades & themes to help corporate treasurers get ahead of the latest issues shaping markets.

The Delta virus variant is giving markets cause for concern, but UK data leaves us more optimistic about the effectiveness of vaccines. Still, this means synchronised global growth will likely start to give way to vaccine-driven divergence, affecting FX in particular.

  • The Delta coronavirus variant is weighing on markets, but evidence gives us reason to be optimistic: case rates are rising quickly in Europe, prompting some new restrictions in Spain (Catalonia appears to be the worst affected region). But in the UK, which has an elevated number of Delta cases, the relationship between case numbers and hospitalisations is much flatter than it was in previous waves, which leaves us more optimistic about the market outlook.
  • We expect more defensive FX positioning as growth expectations shift towards highly vaccinated economies: the global synchronised growth story is giving way to regional growth driven by vaccinations and lockdown risk, where regions like the UK and the UK are performing well (as are their respective currencies).
  • Fed Chairman Jerome Powell reaffirmed the ‘transitory inflation’ narrative in his semi-annual monetary policy testimony on Wednesday: Powell acknowledged that inflation "has increased notably and will likely remain elevated in coming months before moderating,” citing the usual suspects – base effects, re-opening impacts, and supply-related bottlenecks, and giving us little reason alter our outlook.
  • The European Central Bank’s (ECB) Strategic Review was as expected, but we could see an extension of asset purchases in the future: the ECB introduced a symmetric inflation target of 2% (which means undershoots are as bad as overshoots) and reaffirmed it would remain flexible and pragmatic on the use of unconventional tools, as expected. But ECB President Christine Lagarde also hinted last week that getting to 2% requires further force or persistence, implying that quantitative easing (QE) is likely to be extended soon. The ECB meets on July 22.
  • More QE should insulate credit and tame bond yields: lower-for-longer monetary policy and continued QE support in Europe should keep bond yields in check, even in an environment of strong growth momentum and broadly rising long-term rates.

Sterling bond investors are going long

The past week marked an interesting test for investor appetite around longer-dated bonds, with Flagship and Wellcome Trust raising Sterling in 40-year and 50-year notes, respectively. These maturities are rarely seen in the corporate space, but both transactions received a warm reception from investors, and could entice more issuance from others looking to capitalise on lower rates. If this keeps up, we could start to see new issue premiums (the concession paid on issuing new bonds) start to rise for longer-dated bonds.

Summer break for corporates

On the other hand, it’s starting to feel like a summer break is upon us in corporate markets – for the first year in quite some time. Some treasurers we speak with are using the opportunity to upgrade their medium-term note (MTN) programme documentation – for instance, by adding green and sustainability use of proceeds language or KPIs, or adding new potential funding instruments like hybrid bonds into the mix, to better align their financial strategy with broader corporate objectives and make it more flexible

Our latest quarterly economic outlook just dropped, and it’s clear to us that although global growth is strong, rising inflation – and how central banks tackle it – will be the key risk to look out for in Q3.

The macro schedule gets quite busy from August onward, providing ample opportunity for central bank rhetoric and shifting monetary policy tactics to reverberate through markets and create volatility. The below is a snapshot of all the key risk events to look out for.

Sources: NatWest Markets. FOMC is the Federal Open Market Committee. PEPP is the Pandemic Emergency Purchase Programme. APP is the Asset Purchase Programme.

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