Transcription
You didn't see very much. And Chris was talking about this earlier. We didn't see very much response in Euro dollar as a result.
What do you make of the fact that the euro is quite resilient? Absolutely. It's interesting that Trump should mention 25% tariffs on European automobiles, or just Europe as a whole, and the euro should just shrug it off. If he had announced this at the start of the year, the euro would have been pummeled. The reaction would have been very different. But with other tariff announcements from the US almost daily in recent days, the markets have kind of grown inured to them. The markets are essentially treating tariffs as a looming threat and as a negotiating tool rather than as something definite at this point in time. That means the euro will move further and further away from parity as the markets fade the earlier strong dollar theme.
And that is especially so because, if you look at the tactical trade and the ECB meets next week, it is likely that they will signal they are turning cautious about future rate cuts. We've already heard from Schauble, we have already heard from Nigel saying that future rate cuts, or guaranteed rates, may not be as restrictive as they thought earlier, even. And that neutral rate estimates are more, more academic. So I think the euro has a very good chance that the ECB is going to signal that future rate cuts aren't on autopilot, aren't guaranteed, and that is going to support the euro until we get to know what the US situation on tariffs, the definitive situation on tariffs is, as opposed to every headline announcement coming every other day from the administration.
Then where else are we seeing this all showing up? I read your notes before the show. You talked about swap spreads and what we're seeing there. Walk us through other areas of the market, maybe less explored areas of the market that we should be paying attention to. Swap spreads are a key segment of the markets we should be watching. Why should we be watching that? Because swap spreads are a useful proxy for what is known as the convenience yield. Swap spreads measure the differential between swap rates and similar maturity government bonds and provide a dipstick of sentiment toward preference for owning government bonds. Swap spreads in the euro area have tumbled to record lows and are negative at this moment, meaning bond yields are higher than swap rates. Why is that happening? Because euro area governments are looking to raise a lot of money from the bond markets via fresh issuance. Before the pandemic, there wasn't a single year when the bond sales exceeded €1 trillion. However, since then, they have been raising in excess of €1.2 trillion every single year. And this year, because of the defense outlay, the additional defense outlay that the US is imposing on Europe, it means that they will be looking to raise in excess of €1.4 trillion. So that issuance means we have gone from a global savings glut to a bond glut, which is why swap spreads have gone negative.