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Rates & Economics ● Global
27 February 2019Global key themes 3
Trade ideas 5
UK strategy 6
US strategy 9
Eurozone strategy 10
CUTE results 13
UK Inflation 18
US inflation 20
Eurozone inflation 22
France inflation 24
Key macroeconomic figures 26
Inflation volatility 27
Carry (assuming settlement
on 1 March) 28
Seasonality 29
Disclosure appendix 31
Disclaimer 34
ContentsRates & Economics ● Global
27 February 2019
Global inflation continues to disappoint
Inflation data has continued to come in lower than expected across the world and this is
reflected in our HSBC CPI surprise indices which are showing a long-term downward trend,
including for G7 countries (Figure 1). In EM, there is also widespread disinflation and Chinese
producer prices – a leading indicator for core goods inflation in developed markets – is flirting
with deflation.
It is easy to attribute the weakness to the fall in oil prices, and therefore to conclude that it will
prove temporary. But underlying price pressures are very soft as well – even in regions where
wages have been rising. So while subdued inflation was merely a puzzling phenomenon during
the global upswing in economic activity in 2016-17, now that growth is also slowing, it is more
concerning. This supports our ongoing structurally cautious stance on global inflation assets.
Cross-market divergence
These factors have helped prompt a dovish shift in tone from several major central banks. The
experience of Japan clearly illustrates the importance of retaining accommodative monetary
policy in this sort of economic environment. When debt levels are so high, any small rise in real
yields can quickly choke off any signs of a recovery, and when realised inflation is low, it
becomes even harder to service existing debt.
Following the shift in central bank rhetoric, inflation expectations have rebounded in the US but
they have stayed on a firm downward trajectory in the Euro area (Figure 2). Heavy supply and
soft data have left Euro inflation investors overlooking the rise in oil prices and equity prices.
Meanwhile, in the UK, inflation breakevens have been choppy within a fairly narrow range as
investors grapple with the potential influence of Brexit and the risk of RPI reform.
Exploit the value offered by spread trades
Overall, we are tactically neutral on global breakevens at present. However, this masks our differing
view on the outlook for inflation assets in each region. We have turned mildly bullish on TIPS but
Global key themes
Daniela Russell
Head of UK Rates Strategy
HSBC Bank plc
daniela.russell@hsbcib
+44 20 7991 1352
Our structurally cautious
stance on global inflation
remains intact
Breakevens in the US and
Euro area have diverged
Figure 1. Inflation continues to disappoint across the G7Figure 2. US and Euro area breakevens diverge
Source: HSBC, BloombergSource: HSBC, Bloomberg* using French 10y breakeven
-32
-30
-28
-26
-24
-22
-20
-18
Mar 17Jul 17Nov 17Mar 18Jul 18Nov 18
G7 CPI Surprise index
0.9
1.0
1.1
1.2
1.3
1.4
1.5
1.6
1.7
1.8
1.9
2.0
2.1
2.2
Aug 18Sep 18Oct 18Nov 18Dec 18Jan 19
%%
10Y Euro BE* (RHS)
10Y TIPS BE (LHS)
Rates & Economics ● Global
27 February 2019remain steadfastly bearish in the UK. In the Euro area, our structurally negative bias is still intact, but
we are currently neutral as valuations in the sub 10-year sector already reflect a bleak outlook.
We have been bearish on UK inflation for a while, but now we have become more bullish in the
US it makes sense for us to be selling front-end UK breakevens versus TIPS. The market’s pricing
of inflation in each of those regions is inconsistent with our view of the fundamentals. On top of
that, we’ve developed a new fair value model for assessing front-end linkers in the UK which tells
us that they are around 50bp expensive relative to our economists’ inflation forecasts. So it puts
some weight behind our preference to be short in the UK.
Take profit on outright long in five-year UK real yields
We have been positioned outright long of five-year UK real yields since January 2018. This has
served as an effective hedge against a ‘no-deal’ Brexit. While this scenario has not yet been taken off
the table, fears of a ‘no-deal’ Brexit have been receding. With that in mind, we are taking profit on this
trade and exiting the position (Table 3).
Position for a flatter Euro inflation term structure…
Breakeven weakness has started to proliferate further out the curve in the Euro area. Heavy supply
has compounded the impact of weak data, causing 10-year inflation swaps to underperform versus
those shorter on the curve. While ASW buying may have been one factor behind the recent
weakness of 10-year HICPxT, it may also reflect market expectations for a more persistent period of
low inflation. Given the inflation forward curve now looks fairly flat out to the 10-year point, but steep
after, we think 10-30-year flatteners on the inflation swap curve offer attractive risk-reward.
…but still favour inflation curve steepeners in the UK
This contrasts with our existing 10-30-year RPI steepening recommendation in the UK, which
therefore theoretically offers investors the opportunity to position for this box spread to tighten.
Meanwhile, we continue to favour the implicit breakeven steepening exposure embedded in our
long position in UKTi 68s on breakeven versus 10-year RPI (Table 2).
As we outlined in our Spring Statement Preview on 25 February 2019, while record-size APF
buybacks will absorb a notable amount of nominal duration in March and April, the upcoming
large index extension should provide support for long-end real yields in the UK. Moreover, the
supply outlook should provide a positive underlying backdrop for long-end inflation assets in
2019/20. We expect the DMO to skew issuance away from linkers again, as it seeks to take
further measures to reduce the inflation exposure of the gilt portfolio (while also adjusting to the
shift in demand). There is likely to be relatively less supply of longs and linkers, and just four
syndications – the risk being that there may only be three syndications in the end (two nominal
gilts and one linker). For full details of our gilt Remit forecasts and the market implications,
please see the Spring Statement Preview: Last stop before the exit - 25 February 2019.
We favour selling front-end
UK BEs versus TIPS
Persistence of low inflation
already well-priced by sub
10-year inflation swaps
Steepening bias embeds our
bearish view on UK inflation
breakevens
Table 1: Upcoming inflation-linked bond auctions projected in March
Date Country SegmentDetails TickerAmount
26 Feb (11:30CET) UK 10Y Re-opening of IL28 UKTI0.125 8/28 GBP1.1bn
5 Mar (11:30CET) Germany 11Y Re-opening of Bundei30 DBRI0.5 4/30 EUR0.50bn
6 Mar (2:00CET) New Zealand 22Y Re-opening of 2040 IL security NZGB2.5 9/40 NZD0.1bn
7 Mar (10:30CET) Spain 14Y Re-opening of SPGBei33 SPGBei0.7 11/33 EUR0.5-1.0bn
21 Mar (18:00CET) US 10Y Re-opening of 10-year TIPS TII0.875 1/29 USD11.0bn
21 Mar (11:50CET) France 10Y Re-opening of OATi28 FRTR0.1 3/28
EUR1.0-1.5bnFrance 11Y Re-opening of OATei30 FRTR0.7 7/30
France 17Y Re-opening of OATei36 FRTR0.1 7/36
26 Mar (11:00CET) Italy 4Y Re-opening of BTPei23 BTPS0.1 5/23 EUR1.0-1.5bn
Italy 13Y Re-opening of BTPei32 BTPS1.25 9/32
26 Mar (11:30CET) UK 10Y Re-opening of IL28 UKTI0.125 8/28 GBP1.00bn
Source: Official debt agency website(s), HSBC projections, *auctions where the details are known are italicised。。。