Global Daily – The last QE extension?

by: Nick Kounis , Bill Diviney , Fouad Mehadi

ECB View: Officials signal recent QE extension may be the last – Over the last few days a couple of ECB Governing Council members have signalled that, on current information, the QE programme would not be extended further after September of this year. The Austrian central bank governor Ewald Nowotny said that the end of the programme was ‘within sight’. Whereas at the end of last year, Executive Board member Benoit Coeure said that ‘given what we see in the economy, I believe that there is a reasonable chance that the extension of our asset purchase program decided in October can be the last’. These comments have helped to push up the euro and 10Y Bund yields. Although, Messers. Nowotny and Couere have been among the more hawkish members of the council over recent months, we do think that another QE extension beyond September is unlikely. Having said that, ECB President Draghi has suggested that the programme would not end abruptly and a tapering period would following. So even without a further extension, asset purchases may not come to a complete stop this year. Furthermore, weak underlying inflationary pressures will likely keep interest rates on hold until the second half of 2019. (Nick Kounis)

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US Macro: Surge in ISM new orders suggests stronger investment growth in 2018 – The ISM manufacturing index picked up to 59.7 in December from 58.2 in November, above consensus (58.1) but closer to our forecast (59). The rise was led by a surge in the forward-looking new orders index to 69.4 – a fourteen year high – and consistent with our view that business investment will grow significantly in 2018 (see here). The ISM new orders index is a particularly strong leading indicator for investment, and it typically predicts investment growth with a 3-4 quarter lead. The most recent outturns are consistent with investment growth of 6-7% yoy this year, posing upside risks to even our above consensus 2018 growth forecast of 2.7%. However, while the growth implications are clear, the implications for inflation are less intuitive. With strong investment growth starting to drive a rebound in productivity growth, this will keep a lid on unit labour cost growth, in our view, even as wage growth recovers. As such, we continue to expect core inflation to remain benign in 2018, and that the Fed will hike twice in 2018 as opposed to the three hikes currently projected by the FOMC. (Bill Diviney)

Euro Rates – Will the lower UFR for European insurers have a big impact? – Following changes in long-term expectations of interest rates in recent years, EIOPA (European Insurance and Occupational Pensions Authority) deemed it prudent to change the UFR. Therefore, in April of last year EIOPA published the methodology to derive the Ultimate Forward Rate (UFR) along with its implementation process. As the UFR was previously set at 4.2%, according to the new methodology the UFR had been determined to be 3.65%. The change from 4.2% to 3.65% would be gradual with annual decreases not being higher than 15 bps. This first step of the phasing-in process is effective as of January 2018. The big question is whether these changes – which were already known in 2017 – could have a meaningful impact on the Solvency Ratio of European insurers, their asset allocation and consequently on the European fixed income markets. Our main conclusion is that the impact on the Solvency Ratios is negligible as well as any impact on the fixed income markets. If you would like to read more on our analysis and our research on this topic, please contact us for the full research note. (Fouad Mehadi)