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Fed in Wait-and-See Mode

Outlook. The yield curve continued to drop on the release of a decidedly dovish tone of the Fed’s December meeting minutes and a moderate US inflation outlook. Despite raising its rates for the fourth time in 2018 last December, Fed officials indicated that it “could afford to be patient” with future rate hikes with inflation still muted, growing concerns about global growth, and volatility in financial markets. The minutes showed that there were few members who voted against the December hike on lack of inflationary pressures, while hike expectations this year dropped from four to two. Despite a slight uptick in US Treasuries (UST) last week, tame headline US consumer price index (CPI) growth in 2018 of 1.9%, slow corporate earnings growth outlook this year, and concerns regarding the possible harmful economic effects of a prolonged government shutdown may keep both US and the local yield curve subdued.

Local investors are now locking in and chasing yields in the face of fresh supply and the possibility of further interest rate drop. The local yield curve continued to flatten as lower inflation expectation pushed the long-end down and the tap facility pushed the short-end up.

Market review. The local benchmark yield curve fell by 20bps on average week-on-week (WoW) following the release of dovish Fed minutes. The spread between the local 10-yr local benchmark and the 10-yr US Treasury (UST) narrowed to 392bps from 427bps in the week prior as the former fell by 30bps to 6.63% while the latter likewise rose by 4bps to 2.71%. Yields of ROPs fell by 2bps on average, bucking the movement in US Treasuries which rose by 3ps on average.

Average total daily up by 30% week-on-week (WoW) to Php24.6bn. The liquid yield curve fell by an average of 18bps WoW as the front-end (364-day T-bill) shed 13bps to 6.64%, the belly (FXTN 10-63: 9.5yrs) down by 30bps to 6.63%, while the tail (R25-01: 20.5yr) shed 13bps to 7.25%. Secondary trading average volume rose by 30% to Php24.6bn as average T-bill volume tripled to Php5.3bn. On the other hand, T-bond volume rose by 9% to Php19.3b. The latest Php15bn auction of 91-day, 182-day, and 364-day T-bills was only partially awarded amid mixed reception. Only the 182-day and 364-day were fully-awarded at an average rate of 6.154% and 6.253%, 17bps and 39bps, respectively, lower than the last auction. On the other hand, the 91-day T-bill was only partially awarded and was capped at an average of 5.396%, 2 bps lower than the previous auction. Due to robust demand, a tap facility of Php8bn was opened for the 364-day T-bill, bringing the total award of the auction to Php22bn from the Php20bn initially offered. Lastly, the Bureau of the Treasury (BTr) fully awarded Php20bn worth of 10-yr T-bonds at an average rate of 6.875%, in line with market expectation, and another Php20bn was accepted via tap facility. The auction was 2.6x oversubscribed.

Emerging Markets’ (EM) 10-year down 2bps (WoW). Yields of EM bonds we follow were down by 2bps on average WoW on dovish Fed sentiment. Argentina (10-year yield -182bps), Indonesia (-11bps), and Colombia (-11bps) outperformed, while Mexico (10-year yield +17bps), India (+14bps), and Hong Kong (+14bps) underperformed.

USTs up 3bps WoW. US Treasuries were up by 3bps WoW on average as the 10-yr UST likewise rose by 4bps to 2.71% despite the Fed’s dovish tone and the consumer price index’s (CPI) decline of 0.1% last December. Headline inflation for 2018 averaged 1.9%, below the 2.0% target and 2016 and 2017’s 2.1% print. However, core inflation showed a different picture, rising by 0.2% in December and steadying to 2.2% for the year. This figure was considered “moderate” and was in line with consensus forecast. Energy prices have been rebounding in January, so a short-term reversal of the deflationary trend seems likely, unless a prolonged government shutdown, which is now on its third week, impairs the economy. Consumer inflation expectation, one of the Fed’s gauges for its rate hikes, showed a slightly higher figure of 3% in December, up from 2.9% in November, while 2018 average held steady at 3%. This stable and low inflation expectation is one of the main reasons why the Fed is now taking a wait-and-see approach this year.

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