Rates Spark: Equity optimism not shared by rates

Whilst equity markets posted decent gains, rates markets reflected less optimism. The belly of the curve, in particular, outperformed in rates markets. For both EUR and USD curves, the 5Y swap rate was down almost 10bp, which voices a somewhat different tone from the bump higher in equities. The fall in 5Y rates suggests that economic concerns are peaking further out the curve, whereby Trump’s policies are expected to especially weigh on growth later into his presidency. Perhaps equity markets are taking a more short-sighted view.

The front end of the euro swap curve showed less volatility and remains anchored to the idea that the European Central Bank will cut to around 1.75% by the end of this year. A Bloomberg survey suggests that markets agree on the negative growth impact in the near term from US tariffs but show more dispersion regarding the impact on inflation. Around a quarter of the respondents see higher inflation from Trump’s policies in the near term, which would prevent the ECB from accelerating rate cuts. As such, the 2Y swap rate may face some resistance to break lower from current levels.

USTs outperformed the swap curve, which would reflect a risk-off day in normal circumstances. But since the turmoil last week, the UST has not behaved as a typical safe asset. Investors withdrawing from the US, fiscal deficit concerns and technical drivers all contributed to the selling off of USTs during times of market stress. The Bund, on the other hand, did reflect the improved global market sentiment correctly and underperformed versus swaps. Having said that, the 10Y Bund only trades at 2bp above the swap, still significantly smaller than the 9bp pre-liberation day spread.