Treasury Risk Monitor: the end of furlough, a slowing US economy, and the ECB’s cautious PEPP down

16 September 2021

Giles GaleHead of European Rates Strategy

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

3 minutes

The big picture

The UK outlook is improving but the end of furlough is an important risk to watch, while slowing economic activity in the US and uncertainties around what the return to school means for the pandemic clearly has markets spooked.

Risk monitor for the week ahead

  • The UK economic outlook (and the outlook for Sterling) is improving on the back of steady job creation, but the end of furlough is important to watch. UK pay-as-you-earn (PAYE) employee numbers are now above pre-pandemic levels, but the self-employed haven’t kept pace and numbers remain well below early 2020 levels. This matters for interest rates because the Bank of England will want to see strong evidence that economic slack is eroding before any hikes. Here, the impact of the end of furlough is a key uncertainty. About 1.6 million people are now furloughed and there is some evidence that their rotation back into employment is slowing, raising the risk that a large part of this group is ‘shadow unemployed’.
  • US economic data, geopolitics, and the return to school are key short-term risks. Last week, the S&P fell 5 days in a row – something you don’t see very often – which appears symptomatic of waning US economic data, the turmoil in Afghanistan, and uncertainty around how the return to school will affect coronavirus infections and momentum combatting the pandemic. Longer term, we’re less fussed. US equity valuations are exceptionally high and although a correction is a possibility, we don’t think it will be catalysed by stagflation (high inflation, slowing economic growth and high unemployment).
  • The European Central Bank’s (ECB) bid to slow asset purchases should help smooth volatility and is positive from a risk perspective. The ECB’s plan to step down its pandemic-driven quantitative easing programme (by around €10-15 billion per month) should help bond yield volatility in check, and good for riskier assets. The next big ECB meeting will now be in December, when they need to give guidance about 2022 purchases.
  • The Fed Chair appointment (or reappointment) is imminent. Jerome Powell’s term as Chair ends in February and we expect him to be reappointed. He has the support of the Treasury Secretary (former Fed Chair, Janet Yellen). But there is a chance that Lael Brainard may be preferred, and markets may take her nomination as a small negative for equity and credit and a risk toward lower US bond yields.

Trending with treasurers   

Public markets are becoming more flexible

Both public and private funding markets remain very strong, and public markets are increasingly accepting of sub-benchmark (i.e. below $/€ 500 million) bond sales, which has often been a constraint for issuers trying to diversify their funding through capital markets. Investor appetite for duration also remains strong.

Managing credit lines and optimising capital consumption

For many corporate treasurers, rising uncertainty heading into colder months – when the risk of rising coronavirus infections is on the rise – has increased focus on hedging longer tenors and optimising capital consumption. Some areas of interest include cross-currency swaps, which lower credit and capital consumption from our perspective, making trades easier to deliver; options that protect firms in adverse market conditions, including interest rate caps, floors and swaptions; auctioning off existing derivative positions to free up capacity; and making use of mandatory breaks to reduce credit lines and improve pricing.

Chart of the week

We’ve been fairly clear about our expectations around rising inflation in recent weeks, but this week we’ve raised our projected peak in our inflation forecast to reflect higher-than-expected price pressures in August and in particular, evidence of stronger services inflation: consumer price inflation (CPI) to peak at 4.2% around the turn of the year (revised up from 3.6%), with retail price inflation (RPI) peaking at 5.6% (revised up from 5.1%).

Risks of a more persistent overshoot of target are growing, given the increasingly broad-based nature of the rise in inflation (see below for inflation by category).

CPI (% year-on-year) and components (% point contribution)

Sources: BRC, UK Office for National Statistics (ONS)

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