The pound has got off to a positive start ahead of this week’s budget as optimism over the vaccine rollout, which passed the 20m at the weekend, fostered hopes for an economic rebound that is likely to be much faster than its peers in Europe.
Moreover, with the UK budget only two days away, mortgage approvals for January are expected to remain close to 100k, after rising to 103.4k in December.
The Chancellor is expected to extend the stamp duty holiday, which is due to expire at the end of this month for another three months to give more time to get through the backlog of completions that have built up in the past few months, Michael Hewson, chief market analyst at CMC Markets UK, said this morning.
Markets in Europe look set to start March in a positive fashion despite the tumbles seen on Friday, which saw the FTSE100 post its worst one day fall since October last year.
The slightly more positive tone appears to be as a result of a pause in the move higher in yields, he continued, as bond markets stabilise after the choppiness seen at the end of last month, with markets in Asia enjoying a solid rebound after the big falls on Friday.
“Despite the big falls at the end of last week, we still managed to finish the month higher, albeit by a fairly small margin, as did other markets in Europe,” Hewson said.
He pointed out US markets also finished the week on the back foot, but again still managed to post a monthly gain, which “when you consider how far yields have risen over the same period, would suggest that investors aren’t panicking yet, despite the uncertainty about the effects.”
Over the same period of time, US 10-year yields rose from 1.06 per cent, hitting a peak of 1.6085 per cent, before falling back to close just above 1.4 per cent as markets start to price in the prospect of some form of tightening in financial conditions. Hewson said this was earlier than was being priced in at the beginning of the year.
“The sharp decline in yields from their highs of last week, suggests there is still a fair degree of uncertainty about their overall future direction, in light of the rapid speed of the moves seen in the past few days,” he noted.
One of the reasons behind the sharp fall in bond prices has been an expectation that the new $1.9trn stimulus plan, which passed through the House of Representatives at the end of last week, and now about to make its way through the Senate, could set off an inflationary impulse with markets starting to price in the prospect of a rate rise next year, and potentially another one the year after, Hewson explained.
“This reasoning hasn’t been helped by a sharp shift in market concerns about what is being called the reflation trade, and the moves being seen in the commodity space, with sharp rises in crude oil, nickel, tin and copper prices,” he continued.
This week a test for copper
Hewson singled out copper, as he called its price rise has been especially notable, hitting 10-year highs last week, its biggest monthly gain since December 2010.
In the past 12 months the price of copper has doubled and appears to be predicated on the belief that demand is likely to outstrip supply for years to come as the focus inexorably shifts towards renewables.
“As a highly efficient generator of electricity, as well as heat, it is expected to be in high demand in the production of solar, thermal and wind energy systems, as well as electric vehicle production,” he said.
“Quite simply there is no other metal that comes close, though we have also seen decent gains in the prices of tin and nickel, both of which are also used extensively in the production of electric vehicles,” Hewson added.
However, these gains came to a sudden halt at the end of last week as, along with crude oil prices, markets saw a sharp pullback. Given the concerns about rising pricing pressures, this could well be the catalyst that starts to see yields stabilise, Hewson said, adding that this takes “the heat out of the worries” that further rises in yields could prompt a further tightening of financial conditions.
“This week is likely to be a key test for copper, if we get further sharp declines, this might take off some of the upward pressure off bond yields,” he observed.
Central banks on yields this week
While central bankers have been at pains to play down the effects of this upward move in yields, Hewson continued, markets do appear to be in the mood to test their resolve in this regard in the coming days.
A host of Fed speakers are due to speak over the next few days, culminating with Fed chair Jay Powell on Thursday, when he will talk about the US economy at a virtual event hosted by the Wall Street Journal.
The European Central Bank has already expressed its concern over the recent jump higher in yields, Hewson recalled.
“While the recent falls in commodity prices might buy some respite, if we continue to see yields edge higher, then the calls for the ECB to do more to keep yields down will get louder,” he said.
Hewson thinks this is likely to be even more important given that the economy in Europe is still struggling with rising cases of coronavirus and a vaccination program that is stalling, due to unease among populations about the efficacy of the Oxford vaccine.
“Today’s manufacturing PMI for February for Spain Italy, France and Germany will only be telling half the story, with services still struggling, and while their outperformance is welcome, this may not last,” he concluded.