Fed’s Dilemma: Inflation Control and Curve Reversal
The author is an analyst of NH Investment & Securities. He can be reached at sw.kang@nhqv.com. -- Ed.
Going forward, the Fed will likely attempt to balance price control and prevention of TB curve reversal. As such, at the upcoming March FOMC, we expect the US central bank to enact a 25bp FF hike and provide specific hints on QT. Globally, steep flattening of TB curves will likely take a breather.
Fed’s dilemma: Inflation control and curve reversal
Supply side factors are still driving US inflation upshot. We do acknowledge the need for rate hikes, but excessive FF hikes could lead to an unexpected economic slowdown. Of note, after the January CPI report, euro-dollar futures began pricing six to seven rate hikes, and simultaneously, 1yr forward 10yr-2yr TB yields turned negative. As such, the Fed will likely attempt to balance price control and curve reversal prevention.
March FOMC: 25bp rate hike and specific hints on QT
At the March FOMC, we expect the Fed to enact a 25bp FF hike (rather than 50bp) and provide specific hints on quantitative tightening (QT) implementation. At its March meeting, the BOE, which is currently taking the lead in terms of DM tightening, is also likely to raise its base rate by 25bp with minority opinions for a rate freeze. Also, the BOE’s QT will begin as the first batch of Gilts reach maturity following the bank’s QT announcement in February. Gradually, TB market’s attention will shift from rate hikes to QT. Steep TB curve flattening trends in major DMs should take a breather in March.
KTB yields to attempt stabilizing downwards
The BOK significantly raised its inflation outlook but maintained its GDP growth outlook, noting that high inflation can curb demand. Of note, domestic wage growth is only at the historical average and real purchasing power is diminishing. The upward revision to inflation outlook is unlikely to lead to a higher terminal rate this rate hike cycle. We expect the KTB market to slowly focus on growth and KTB yields to stabilize downwards in March.