Europe

  In a webcast this Friday I will be joined by our Chief US Equity Strategist, Anastasios Avgeriou to debate ‘Sectors To Own, And Sectors To Avoid In The Post-Covid World’. Today’s report preludes five of the points that we will debate. Please join us for the full discussion and conclusions on Friday, June 12, at 8:00 AM EDT (1:00 PM BST, 2:00 PM CEST, 8.00 PM HKT).   Highlights Technology is behaving like a Defensive. Defensive versus Cyclical = Growth versus Value. Growth stocks are not a bubble if bond yields stay ultra-low. The post-Covid world will reinforce existing sector mega-trends. Sectors are driving regional and country relative performance. Fractal trade: Long ZAR/CLP.   Chart of the WeekSector Defensiveness/Cyclicality = Positive/Negative Sensitivity To The Bond Price 1. Technology Is Behaving Like A Defensive How do we judge an equity sector’s sensitivity to the post-Covid economy, so that we can define it as cyclical or defensive? One approach is to compare the sector’s relative performance with the bond price. According to this approach, the more negatively sensitive to the bond price, the more cyclical is the sector. And the more positively sensitive to the bond price, the more defensive is the sector (Chart I-1).   On this basis the most cyclical sectors in the post-Covid economy are, unsurprisingly: energy, banks, and materials. Healthcare is unsurprisingly defensive. Meanwhile, the industrials sector sits closest to neutral between cyclical and defensive, showing the least sensitivity to the bond price. The tech sector’s vulnerability to economic cyclicality appears to have greatly reduced. The big surprise is technology, whose high positive sensitivity to the bond price during the 2020 crisis qualifies it as even more defensive than healthcare. This contrasts sharply with its behaviour during the 2008 crisis. Back then, tech’s relative performance was negatively correlated with the bond price, defining it as classically cyclical. But over the past year, tech’s relative performance has been positively correlated with the bond price, defining it as classically defensive (Chart I-2 and Chart I-3). Chart I-2In 2008, Tech Behaved Like ##br##A Cyclical... Chart I-3...But In 2020, Tech Is Behaving Like A Defensive This is not to say that the big tech companies cannot suffer shocks. They can. For example, from new superior technologies, or from anti-oligopoly legislation. However, the tech sector’s vulnerability to economic cyclicality appears to have greatly reduced over the past decade. 2. Defensive Versus Cyclical = Growth Versus Value If we reclassify the tech sector as defensive in the 2020s economy, then the post mid-March rebound in stocks was first led by defensives. Cyclicals took over leadership of the rally only in May. Moreover, with the reclassification of tech as defensive, the two dominant defensive sectors become tech and healthcare. But tech and healthcare are also the dominant ‘growth’ sectors. The upshot is that growth versus value has now become precisely the same decision as defensive versus cyclical (Chart I-4). Chart I-4Defensive Versus Cyclical = Growth Versus Value 3. Growth Stocks Are Not A Bubble If Bond Yields Stay Ultra-Low Some people fear that growth stocks have become dangerously overvalued. There is even mention of the B-word. Let’s address these fears. Yes, valuations have become richer. For example, the forward earnings yield for healthcare is down to 5 percent; and for big tech it is down to just over 4 percent. This valuation starting point has proved to be an excellent guide to prospective 10-year returns, and now implies an expected annualised return from big tech in the mid-single digits. Yet this modest positive return is well above the extremes of the negative 10-year returns implied and delivered from the dot com bubble (Chart I-5). Chart I-5Big Tech Is Priced To Deliver A Positive Return, Unlike In 2000 Moreover, we must judge the implied returns from growth stocks against those available from competing long-duration assets – specifically, against the benchmark of high-quality government bond yields. If bond yields are ultra-low, then they must depress the implied returns on growth stocks too. Meaning higher absolute valuations (Chart I-6 and Chart I-7). Chart I-6Tech's Forward Earnings Yield Is Above The Bond Yield, Unlike In 2000 Chart I-7Healthcare's Forward Earnings Yield Is Above The Bond Yield, Unlike In 2000 In the real bubble of 2000, big tech was priced to return 12 percent (per annum) less than the 10-year T-bond. Whereas today, the implied return from big tech – though low in absolute terms – is above the ultra-low yield on the 10-year T-bond. If bond yields are ultra-low, then they must depress the implied returns on growth stocks too. The upshot is that high absolute valuations of growth stocks are contingent on bond yields remaining at ultra-low levels. And that the biggest threat to growth stock valuations would be a sustained rise in bond yields. 4. The Post-Covid World Will Reinforce Existing Sector Mega-Trends If a sector maintains a structural uptrend in sales and profits, then a big drop in the share price provides an excellent buying opportunity for long-term investors. This is because the lower share price stretches the elastic between the price and the up-trending profits, resulting in an eventual catch-up. However, if sales and profits are in terminal decline, then the sell-off is not a buying opportunity other than on a tactical basis. This is because the elastic will lose its tension as profits drift down towards the lower price. In fact, despite the sell-off, if the profit downtrend continues, the price may be forced ultimately to catch-down. This leads to a somewhat counterintuitive conclusion. After a big drop in the stock market, long-term investors should not buy everything that has dropped. And they should not buy the stocks and sectors that have dropped the most if their profits are in major downtrends. In this regard, the post-Covid world is likely to reinforce the existing mega-trends. The profits of oil and gas, and of European banks will remain in major structural downtrends (Chart I-8 and Chart I-9). Conversely, the profits of healthcare, and of European personal products will remain in major structural uptrends (Chart I-10 and Chart I-11). Chart I-8Oil And Gas Profits In A Major ##br##Downtrend Chart I-9Bank Profits In A Major ##br##Downtrend Chart I-10Healthcare Profits In A Major Uptrend Chart I-11Personal Products Profits In A Major Uptrend   5. Sectors Are Driving Regional And Country Relative Performance Finally, sector winners and losers determine regional and country equity market winners and losers. Nowadays, a stock market’s relative performance is predominantly a play on its distinguishing overweight and underweight ‘sector fingerprint’. This is because major stock markets are dominated by multinational corporations which are plays on their global sectors, rather than the region or country in which they have a stock market listing. It follows that when tech and healthcare outperform, the tech-heavy and healthcare-heavy US stock market must outperform, while healthcare-lite emerging markets (EM) must underperform. It also follows that the tech-heavy Netherlands and healthcare-heavy Denmark stock markets must outperform. Sector mega-trends will shape the mega-trends in regional and country relative performance. Equally, when energy and banks underperform, the energy-heavy Norway and bank-heavy Spain stock markets must underperform. (Chart I-12 and Chart I-13). These are just a few examples. Every stock market is defined by a sector fingerprint which drives its relative performance.  Chart I-12Sector Relative Performance Drives... Chart I-13...Regional And Country Relative Performance If sector mega-trends continue, they will also shape the mega-trends in regional and country relative performance – favouring those stock markets that are heavy in growth stocks and light in old-fashioned cyclicals. Please join the webcast to hear the full debate and conclusions. Fractal Trading System*  This week’s recommended trade is to go long the South African rand versus the Chilean peso. Set the profit target and symmetrical stop-loss at 5 percent. In other trades, long Spanish 10-year bonds versus New Zealand 10-year bonds achieved its 3.5 percent profit target at which it was closed. And long Australia versus New Zealand equities is approaching its 12 percent profit target. The rolling 1-year win ratio now stands at 63 percent. Chart I-14ZAR/CLP   When the fractal dimension approaches the lower limit after an investment has been in an established trend it is a potential trigger for a liquidity-triggered trend reversal. Therefore, open a countertrend position. The profit target is a one-third reversal of the preceding 13-week move. Apply a symmetrical stop-loss. Close the position at the profit target or stop-loss. Otherwise close the position after 13 weeks. * For more details please see the European Investment Strategy Special Report “Fractals, Liquidity & A Trading Model,” dated  December 11, 2014, available at eis.bcaresearch.com.   Dhaval Joshi Chief European Investment Strategist dhaval@bcaresearch.com Fractal Trading System   Cyclical Recommendations Structural Recommendations Closed Fractal Trades Trades Closed Trades Asset Performance Currency & Bond Equity Sector Country Equity Indicators Bond Yields Chart II-1Indicators To Watch - Bond Yields Chart II-2Indicators To Watch - Bond Yields Chart II-3Indicators To Watch - Bond Yields Chart II-4Indicators To Watch - Bond Yields   Interest Rate Chart II-5Indicators To Watch - Interest Rate Expectations Chart II-6Indicators To Watch - Interest Rate Expectations Chart II-7Indicators To Watch - Interest Rate Expectations Chart II-8Indicators To Watch - Interest Rate Expectations  

Highlights The dollar is likely to churn on recent weakness before a cyclical bear market fully unfolds. The reason is that the economic landscape remains fraught with uncertainty, both politically and economically. We continue to recommend a barbell strategy. Hold a basket of the cheapest currencies such as the NOK, SEK, and GBP along with some safe havens. Watch the performance of cyclicals versus defensives and non-US markets versus the S&P 500 as important barometers for dollar downside. The EUR/USD could touch 1.16, while still staying in the confines of a structural bear market. Our FX model is more aggressive, and is recommending shorting the DXY for the month of June. Feature Chart I-1The Dollar Tries To Break Down The DXY index is punching below key support levels in an attempt to reverse the cyclical bull market in place since 2011. Our technical roadmap has been the upward-sloping channel, in place since 2018 (Chart I-1). At 96.77, the DXY index is already several ticks below the lower bound of this channel. As the breakdown becomes more broad based, especially vis-à-vis the euro, this will cement the transition from easing financial conditions to improving global growth. Cyclical currencies such as the Australian dollar and the Norwegian krone have already bounced powerfully from their March lows and have now entered the technical definition of a bull market (Chart I-2). For example, from a low of 55 cents, the Aussie is now trading at 69 cents, up 25%. As long-term dollar bears, our portfolio has benefited tremendously from this shift in market sentiment.1  Chart I-2A Report Card On Currency Performance The key question for new investors is whether the move in the dollar represents a false breakdown or the beginning of a cyclical bear market. To answer this, we are reviewing key charts and indicators to explain dollar weakness and help gauge whether it pays to enter new short positions. Explaining Dollar Weakness US dollar weakness has been driven by three interrelated factors: Non-US economies that were initially hit by COVID-19 are reopening faster. As a result, economic momentum is higher outside the US. The rise in economic momentum is supporting money velocity outside the US. In other words, animal spirits are being rekindled at a faster pace abroad. In the classical equation MV=PQ,2 a rise in both M and V can be explosive for nominal output. Higher money velocity outside the US has started to attract capital inflows. This is beginning to show up in the outperformance of non-US markets. With economies outside the US now reopening, PMIs abroad have recovered at a faster pace.  Chart I-3 shows that dollar strength throughout most of March can be partly explained by the relative resilience of the US economy, in part driven by a late start to state-wide shutdowns. This was exacerbated by a dollar liquidity shortage, as demand for US dollars abroad surged. With economies outside the US now reopening, PMIs abroad have recovered at a faster pace. As Chart I-2 illustrates, developed market currencies have fared in pecking order of the easing in lockdown measures, with the AUD outperforming the CAD, and the SEK outperforming the EUR. Prior to the onset of COVID-19, there was a pretty tight correlation between global services relative to manufacturing activity and the dollar (Chart I-4). As a relatively closed economy, the US tended to benefit when services output had the upper hand. This time around, the service sector has been hit much harder due to social distancing measures in place, but it is also likely to have a more drawn-out recovery. For example, visits to theme parks or restaurants are unlikely to retrace back to their pre-crisis peaks anytime soon. However, construction activity, especially geared towards infrastructure or residential housing, may bounce back sooner. Chart I-3A Strong Recovery Outside The US Chart I-4USD And Manufacturing Vs Services The key message is that global manufacturing activity so far is holding up better than services, and activity is picking up faster abroad. This has historically been good news for procyclical currencies. Money Velocity And The Dollar There is increasing evidence that money velocity is being supported outside the US. For global manufacturing activity to recover, it requires a rise in animal spirits to begin to capitalize on very generous financing conditions. In this respect, there is increasing evidence that money velocity is being supported outside the US. In the euro area, the velocity of money in Germany has stopped falling relative to the US. This is a marked change from anything we have seen since the European debt crisis. More importantly, the ebb and flow of ‘V’ in Germany relative to the US has mirrored the relative path of interest rates (Chart I-5). Global industrial activity remains quite subdued, but it appears that sentiment among German investors is very upbeat for the post-COVID recovery. This has usually been a good barometer for the improvement in PMIs (Chart I-6). Granted, the improvement in relative V has been driven mostly by the collapse in US money velocity. But what matters for currencies are relative trends. Once economic activity enters a full-fledged recovery, we expect US output to be hampered by the rise in the dollar over the past 18 months, while cyclical economies will be buffeted by much-cheapened currencies. This raises the prospect of much more pronounced economic vigor outside the US. Chart I-5Money Velocity Support In Europe Chart I-6Euro Area Sentiment Is Improving The ratio of the velocity of money between the US and China has tended to track the gold/silver ratio (GSR) with a tight fit (Chart I-7). A falling ratio signifies that the number of times money is changing hands in China outpaces the number in the US. This also tends to coincide with a pickup in manufacturing activity, for the simple reason that silver has more industrial uses than gold. Therefore, the recent collapse in the GSR is prescient.   Soft data confirms this trend. Both the Caixin and NBS manufacturing PMI are outperforming that in the US, and are likely to keep doing so in the coming months (Chart I-8). Chart I-7Money Velocity Support In China? Chart I-8Wide Gap Between Chinese And US Output It is important to note that while there has been some disconnect between the performance of the economy and stock prices, no such dichotomy exists in currency markets. The ratio of cyclical currencies relative to defensive ones tends to track the global PMI directionally. While this ratio is below its 2008 lows, the global PMI has bottomed at higher levels (Chart I-9). The difference can probably be explained by the fact that either domestic investors (especially retail) have been the dominant buyers of equities, and/or institutional investors have been hedging currency risk. It is true that the bounce in AUD/CHF (or other procyclical pairs) from the lows has brought it closer to technically stretched levels, and some measure of indigestion is overdue. That said, this mainly reflects mean reversion from deeply oversold levels (Chart I-10). If manufacturing activity can keep improving, and the velocity of money outside the US can pick up, this will revive capital flows into these markets, which will lead to more pronounced breakouts. Given the huge uncertainty surrounding these forecasts, we believe the risk to the greenback is currently balanced. Chart I-9Equity And Currency Markets Have Diverged Chart I-10Still Oversold Capital Flows As An Indicator The nascent upturn in a few growth indicators is also coinciding with a positive signal from equity markets. Global cyclical stocks have started to outperform defensives in recent weeks, as flows into more cyclical ETF markets are accelerating (Chart I-11). Chart I-11Inflows Into Cyclical ETFs Chart I-12Inflows Into US Assets Are Picking Up The S&P 500 has been the best performing market for a few years now, so a crucial part of the dollar call lies in international equity markets outperforming the US. Indeed, the latest data show that as recent as March, net foreign inflows into US equity markets were quite strong (Chart I-12). This might explain why the S&P 500 continued to outperform during the March drawdown. In a nutshell, the outperformance of more cyclical currencies will require confirmation of a breakout in their relative equity market performance. This applies to the euro area, commodity-producing countries, and other emerging and developed market currencies (Charts I-13A and I-13B). The catalyst will have to be rising relative returns on capital outside the US, but the starting point is also extremely attractive valuations. Chart I-13ANascent Bounce In Cyclicals Versus Defensives Chart I-13BNascent Bounce In Cyclicals Versus Defensives We recently penned a report titled “Cycles And The US Dollar,” which showed empirically that US valuations have more than fully capitalized future earning streams, especially vis-à-vis their G10 peers. That said, before a cyclical bear market can fully unfold, we are watching two key indicators for dollar downside: As the Fed continues to dilute existing bond shareholders, the ratio of the US bond ETF (TLT) to gold (GLD) will be an important proxy for investor sentiment. One of the functions of money is as a store of value, and gold remains a viable threat to the dollar (and Treasurys) in this regard. A falling ratio will suggest private investors are dumping their bond holdings in exchange for harder assets such as precious metals. Recent inflows into the GLD ETF may be signaling such a shift (Chart I-14), but it will take a clean break in this ratio below 0.95 to solidify the trend. As geopolitical tensions between US and China mount, the USD/CNY exchange rate will become the key arbiter between two dollars: one versus emerging markets and the other versus developed markets. So far, USD/CNY is holding close to cyclical highs, but a break above will put Asian currencies at risk. This will have negative implications for developed-market commodity currencies (Chart I-15). Chart I-14Gold And USD Inflows Diverge Chart I-15Tied To The Hip EUR, GBP And Housekeeping We continue to recommend a barbell strategy. Hold a basket of the cheapest currencies such as the NOK, SEK, and the GBP along with some safe havens. Being short the gold/silver ratio is also a good way to play an eventual economic recovery, with the benefit of a tremendous valuation cushion. The market certainly applauded the European Central Bank’s addition of €600 billion in bond purchases, given the fall in peripheral bond spreads. The euro also bounced on the back of two factors: Chart I-16QE And EUR/USD Even with additional stimulus, the balance sheet impulse of the Fed is still larger than that of the ECB (Chart I-16). Historically, this has favored long EUR/USD positions. The compression in peripheral spreads should boost European growth as it lowers the cost of capital for countries such as Spain and Italy. This improves debt dynamics and encourages the productive deployment of capital. Technically, the EUR/USD can rally towards 1.16 while remaining within the confines of a structural bear market (Chart I-17). Beyond this point, it will be imperative for European growth dynamics to take over the baton to support a much higher exchange rate. As we mentioned earlier, the velocity of money in Germany has stopped falling relative to the US, but relative improvement is not yet enough to warrant structural positions in EUR/USD. Our FX model is more aggressive, and is recommending shorting the DXY for the month of June. Our FX model is more aggressive, and is recommending shorting the DXY for the month of June. Since the 1980s, this three-factor model has outperformed the DXY index by a significant margin (Chart I-18). Chart I-17EUR/USD Could Touch 1.16 Chart I-18The Model Is Short DXY In June Finally, our limit-sell on EUR/GBP was triggered at 0.90 last week. While valuation favors a short position, the ramp-up in Brexit tensions is a key risk to this trade. As such, we are placing tight stops at 0.905.   Chester Ntonifor Foreign Exchange Strategist chestern@bcaresearch.com Currencies US Dollar Chart II-1USD Technicals 1 Chart II-2USD Technicals 2 Recent data in the US have been negative: Headline PCE fell from 1.3% to 0.5% year-on-year in April. Core PCE also declined from 1.7% to 1%. Personal income surged by 10.5% month-on-month in April, while personal spending decreased by 13.6%, implying a higher savings rate. Total vehicle sales increased from 8.6 million to 11 million in May. Factory orders fell by 13% month-on-month in April. The trade deficit widened from $42.3 billion to $49.4 billion in April. Initial jobless claims increased by 1877K for the week ended May 29th. The DXY index fell by 1.1% this week, reflecting cautiously positive sentiment as many countries started to ease lockdown measures.   Report Links: Cycles And The US Dollar - May 15, 2020 Capitulation? - April 3, 2020 The Dollar Funding Crisis - March 19, 2020   The Euro Chart II-3EUR Technicals 1 Chart II-4EUR Technicals 2 Recent data in the euro area have been negative: Headline inflation fell from 0.3% to 0.1% year-on-year in May, while core inflation was unchanged at 0.9%. The unemployment rate increased from 7.1% to 7.3% in April. The Markit manufacturing PMI slightly fell from 39.5 to 39.4 in May, while the services PMI increased from 28.7 to 30.5. Retail sales plunged by 19.6% year-on-year in April, following an 8.8% decline the previous month. EUR/USD appreciated by 1.4% this week. On Thursday, the ECB kept key interest rates unchanged, while announcing a further 600 billion euros increase of its PEPP facility, taking the total to 1.35 trillion euros. There was also an extension of the program till June 2021.   Report Links: On The DXY Breakout, Euro, And Swiss Franc - February 21, 2020 Updating Our Balance Of Payments Monitor - November 29, 2019 On Money Velocity, EUR/USD And Silver - October 11, 2019   The Yen Chart II-5JPY Technicals 1 Chart II-6JPY Technicals 2 Recent data in Japan have been mostly negative: Construction orders plunged by 14.3% year-on-year in April. Housing starts fell by 12.9% year-on-year in April. Capital spending increased by 4.3% quarter-on-quarter in Q1. The monetary base surged by 3.9% year-on-year in May. The manufacturing PMI was unchanged at 38.4 in May, while the services PMI increased from 21.5 to 26.5. The Japanese yen fell by 1.3% against the US dollar this week. Japan lifted its nationwide state of emergency last week, however, the economy is still in deep recession as COVID-19 continues to disrupt global supply chains.   Report Links: The Near-Term Bull Case For The Dollar - February 28, 2020 Building A Protector Currency Portfolio - February 7, 2020 Currency Market Signals From Gold, Equities And Flows - January 31, 2020   British Pound Chart II-7GBP Technicals 1 Chart II-8GBP Technicals 2 Recent data in the UK have been mixed: The Markit manufacturing PMI slightly increased from 40.6 to 40.7 in May. The services PMI also ticked up from 27.8 to 29. Nationwide housing prices fell by 1.7% month-on-month in May. Money supply (M4) surged by 9.5% year-on-year in April. Mortgage approvals increased by 15.8K in April, down from 56K the previous month. GBP/USD increased by 1.7% this week. The Bank of England urged banks to step up no-deal Brexit plans this week, implying that there might have been a shift in the BoE’s assumptions about the outcome of ongoing talks between the UK and the European Union. That being said, we remain bullish on the pound from a valuation perspective, but are tightening our stop loss this week.   Report Links: Updating Our Balance Of Payments Monitor - November 29, 2019 A Few Trade Ideas - Sept. 27, 2019 United Kingdom: Cyclical Slowdown Or Structural Malaise? - Sept. 20, 2019   Australian Dollar Chart II-9AUD Technicals 1 Chart II-10AUD Technicals 2 Recent data in Australia have been mixed: The manufacturing index increased from 35.8 to 41.6 in May. The current account surplus increased from A$1 billion to A$8.4 billion in Q1. However, more recent trade data was less encouraging. Imports plunged by 9.8% month on month in April while exports slumped by 11.3%. The trade surplus narrowed from A$10.6 billion to A$8.8 billion. GDP grew by 1.4% year-on-year in Q1. On a quarterly basis, it fell by 0.3% compared with the last quarter in 2019.  Building permits increased by 5.7% year-on-year in April. AUD/USD appreciated remarkably by 4.5% this week. On Tuesday, the RBA kept its interest rate unchanged at 0.25%. Moreover, the RBA sounds cautiously positive in its rate statement, saying that “it is possible that the depth of the downturn will be less than earlier expected.”   Report Links: On AUD And CNY - January 17, 2020 Updating Our Balance Of Payments Monitor - November 29, 2019 A Contrarian View On The Australian Dollar - May 24, 2019   New Zealand Dollar Chart II-11NZD Technicals 1 Chart II-12NZD Technicals 2 Recent data in New Zealand have been negative: Terms of trade fell by 0.7% quarter-on-quarter in Q1, down from a 2.8% increase the previous quarter. It is the first fall since Q4 2018. Building permits fell by 6.5% month-on-month in April, following a 21.7% monthly decrease in March. NZD/USD increased by 4% this week. The fall in terms of trade was led by the decline in meat prices, including lamb and beef, from record levels at the end of 2019. Forestry product prices also fell by 3.4% quarterly in Q1. On a positive note, New Zealand is prepared to ease lockdown measures as there has been no new cases reported for nearly two weeks.   Report Links: Updating Our Balance Of Payments Monitor - November 29, 2019 Place A Limit Sell On DXY At 100 - November 15, 2019 USD/CNY And Market Turbulence - August 9, 2019   Canadian Dollar Chart II-13CAD Technicals 1 Chart II-14CAD Technicals 2 Recent data in Canada have been negative: GDP plunged by 8.2% quarter-on-quarter in Q1. The Markit manufacturing PMI increased from 33 to 40.6 in May. Labor productivity increased by 3.4% quarterly in Q1. Imports fell from C$48 billion to C$36 billion in April. Exports also declined from C$46 billion to C$33 billion. The trade deficit widened from C$1.5 billion to C$3.3 billion.  The Canadian dollar rose by 2.2% this week, alongside oil prices. On Wednesday, the BoC kept interest rates unchanged at 0.25%. It also decided to scale back the frequency of some market operations as financing conditions have improved.   Report Links: More On Competitive Devaluations, The CAD And The SEK - May 1, 2020 A New Paradigm For Petrocurrencies - April 10, 2020 The Loonie: Upside Versus The Dollar, But Downside At The Crosses   Swiss Franc Chart II-15CHF Technicals 1 Chart II-16CHF Technicals 2 Recent data in Switzerland have been negative: KOF leading indicator fell from 59.7 to 53.2 in May. Real retail sales plunged by 20% year-on-year in April, following a 5.8% decrease the previous month. The manufacturing PMI increased from 40.7 to 42.1 in May. GDP declined by 1.3% year-on-year in Q1. On a quarter-on-quarter basis, GDP fell by 2.6% compared with Q4 2019.  Headline consumer prices kept falling by 1.3% year-on-year in May. The Swiss franc rose by 0.5% against the US dollar this week. The 2.6% quarterly decline in Switzerland’s GDP has been the most severe since 1980, mostly led by hotels and restaurants which suffered a 23.4% fall. In addition, the consistent decline in consumer prices might lead the SNB to further step up FX intervention.   Report Links: On The DXY Breakout, Euro, And Swiss Franc - February 21, 2020 Currency Market Signals From Gold, Equities And Flows - January 31, 2020 Portfolio Tweaks Before The Chinese New Year - January 24, 2020   Norwegian Krone Chart II-17NOK Technicals 1 Chart II-18NOK Technicals 2 There has been scant data from Norway this week: The current account surplus increased from NOK 25 billion to NOK 66 billion in Q1. The Norwegian krone appreciated by 3.5% against the US dollar this week. Statistics Norway’s recent balance of payments report shows that the balance of goods and services surged to NOK 27 billion in Q1. Balance of income and current transfers also increased from NOK 1.9 billion to NOK 38.9 billion. Our Nordic basket against the euro and the US dollar is now 10% in the money.   Report Links: A New Paradigm For Petrocurrencies - April 10, 2020 Building A Protector Currency Portfolio - February 7, 2020 On Oil, Growth And The Dollar - January 10, 2020   Swedish Krona Chart II-19SEK Technicals 1 Chart II-20SEK Technicals 2 Recent data in Sweden have been negative: GDP increased by 0.4% year-on-year in Q1, down from 0.5% the previous quarter. The trade surplus increased from SEK 5.2 billion to SEK 7.6 billion in April. The manufacturing PMI increased from 36.4 to 39.2 in May. Industrial production plunged by 16.6% year-on-year in April. Manufacturing new orders also declined by 20.7% year-on-year. The Swedish krona increased by 2.5% against the US dollar this week. Sweden’s GDP grew modestly in Q1, which is better than most of its European counterparts, following its decision not to impose a full lockdown to contain the virus.   Report Links: Updating Our Balance Of Payments Monitor - November 29, 2019 Where To Next For The US Dollar? - June 7, 2019 Balance Of Payments Across The G10 - February 15, 2019   Footnotes 1Please see our table of trades below. 2Where M = money supply, V = velocity of money, P = price level and Q = output.   Trades & Forecasts Forecast Summary Core Portfolio Tactical Trades Limit Orders Closed Trades

Highlights Social distancing must persist to prevent dangerous super-spreading of COVID-19. The jobs recovery will be much weaker than the output recovery, because the sectors most hurt by social distancing have a very high labour intensity. This will force a prolonged period of ultra-accommodative monetary policy… …structurally favour T-bonds and Bonos over Bunds and OATs… …growth defensives such as tech and healthcare… …and the S&P 500 over the Euro Stoxx 50. Stay overweight Animal Care (PAWZ). Working from home has generated a puppy boom. Fractal trade: short gold, long lead. Feature As economies reopen, economists and strategists are quibbling about the shape of the output recovery: U, V, W, square root, or even ‘swoosh’. But for the furloughed or displaced worker, the more urgent question is, what will be the shape of the jobs recovery? Unfortunately, the jobs recovery will be much weaker than the output recovery – because the sectors most hurt by social distancing have a very high labour intensity (Chart Of The Week). Chart Of The Week 1ALeisure And Hospitality Makes A Large Contribution To Jobs Relative To Output Chart Of The Week 1BFinance Makes A Small Contribution To Jobs Relative To Output Output Might Snap Back, But Jobs Will Not The sectors most hurt by social distancing make a huge contribution to employment but a much smaller contribution to economic output. This is true for Europe and all advanced economies, though the following uses US data given its superior granularity and timeliness. The leisure and hospitality sector generates 11 percent of jobs, but just 4 percent of output. Retail trade generates 10 percent of jobs, but just 5 percent of output. It follows that if both sectors are operating at half their pre-coronavirus capacity, output will be down by 4.5 percent, but employment will collapse by 10.5 percent. Conversely, sectors which are relatively unaffected by social distancing make a small contribution to employment but a much bigger contribution to economic output. Financial activities generate just 6 percent of jobs, but 19 percent of economic output. Information technology generates just 2 percent of jobs, but 5 percent of output (Table I-1). Table I-1Sectors Hurt By Social Distancing Have A Very High Labour Intensity If economies are reopened but social distancing persists – either via government policy or personal choice – then output can rebound in a V-shape, but employment cannot (Chart I-2). Forcing a prolonged period of ultra-accommodative monetary policy, with all its ramifications for financial markets. Chart I-2UK Unemployment Is Set To Surge If The US Is Any Guide This raises a key question. Must social distancing persist? To answer, we need to pull together our latest understanding of COVID-19. COVID-19: What We Know So Far Many people argue that coronavirus fears are disproportionate. The mortality rate seems comfortingly low, at well below 0.5 percent (Chart 3). Yet this argument misses the point. Chart I-3The COVID-19 Mortality Rate Is Not High COVID-19 is dangerous not because it kills, but because it makes a lot of people seriously ill. It has a low mortality rate, but a high morbidity rate. According to the World Health Organisation, around one in six that gets infected “develops difficulty in breathing”. Moreover, The Lancet points out that many recovered COVID-19 patients suffer pulmonary fibrosis, a permanent scarring of the lungs that impairs their breathing for the rest of their lives. Hence, while COVID-19 is highly unlikely to kill you, it could damage your health forever1 (Figure I-1). Figure 1COVID-19 Is Unlikely To Kill You, But It Could Permanently Damage Your Lungs The most famous COVID-19 victim to date is British Prime Minister Boris Johnson who spent several days recovering in intensive care. By his own admission, Johnson’s only pre-existing conditions are that he is overweight and “drinks an awful lot”. But those pre-existing conditions could apply to a large swathe of the population. COVID-19 is virulent. But we now know that most infections are the result of so-called ‘super-spreaders’ – a small minority of virus carriers who infect tens or hundreds of other people. We also know that talking loudly, singing, or chanting tends to eject higher doses of the virus, and in an aerosol form that can linger in enclosed spaces. This creates the perfect conditions for one infected person to infect scores of others very quickly.  Based on this latest knowledge, the good news is that economies can reopen. The bad news is that, until an effective vaccine is developed, social distancing must persist. Specifically, people must avoid forming the crowds, congregations, and loud gatherings that can generate very dangerous super-spreading events. Hence, the sectors that are most hurt by social distancing – leisure and hospitality and retail trade – will continue to operate well below capacity for many months, at a minimum. And as these sectors have a very high labour intensity, there will be no V-shape recovery in jobs. Without Higher Bond Yields, European Equities Struggle To Outperform Social distancing is set to persist, which will create heaps of slack in advanced economy labour markets. This will force central banks to push the monetary easing ‘pedal to the metal’ – though in many cases, the pedal is already at the metal. In turn, this will force bond yields to stay ultra-low and, where they can, go even lower. One immediate takeaway is to stay overweight positively yielding US T-bonds and Spanish Bonos versus negatively yielding German Bunds and French OATs. Depressed bond yields must also compress the discount rate on competing long-duration investments that generate safely growing cashflows. Meaning, growth defensive equities such as technology and healthcare. Now comes the part that is conceptually difficult to grasp because it is novel to this unprecedented era of ultra-low bond yields. Take some time to absorb the following few paragraphs. For growth defensives, both components of the discount rate – the bond yield and the equity risk premium (ERP) – compress together. This is because the ERP is a tight function of the difference in equity and bond price ‘negative asymmetries’, defined as the potential price downside versus upside. When bond yields converge to their lower limit, bond prices converge to their upper limit, which increases the potential price downside versus upside. The result is that the difference in equity and bond negative asymmetries converges to zero, forcing the ERP to converge to zero. As the discount rate on growth defensives such as tech and healthcare collapses towards zero, the net present value must increase exponentially. This exponentially higher valuation of tech and healthcare is a mathematical consequence of the novel risk relationship between growth defensive equities and bonds at ultra-low bond yields. The unprecedented phenomenon has a major implication for European equity relative performance. The Euro Stoxx 50 is heavily underweight technology and healthcare, and this defining sector fingerprint is the key structural driver of European equity market relative performance (Chart I-4). Meanwhile, the relative performance of technology and healthcare is just an inverse exponential function of the bond yield (Chart I-5). The upshot is that European equities tend to outperform other regions only when bond yields are heading higher and the growth defensives are underperforming (Chart I-6). Chart I-4The Euro Stoxx 50's Underweight In Tech Drives Its Relative Performance Chart I-5Tech Outperforms When The Bond Yield Declines... Chart I-6...Hence, Without Higher Bond Yields The Euro Stoxx 50 Struggles To Outperform Some commentators are calling the higher valuations in tech and healthcare a new bubble. But it is a bubble only to the extent that bond yields are in a ‘negative bubble’, meaning that ultra-low yields are unsustainable. However, with social distancing set to leave heaps of slack in the advanced economy labour markets, ultra-low bond yields are here to stay and could go even lower. Moreover, as shown earlier, tech and healthcare demand and output are immune to social distancing. They may even benefit from social distancing. Hence, on a one-year horizon and beyond, stay overweight the growth defensive tech and healthcare sectors. And stay overweight the tech and healthcare heavy S&P 500 versus Euro Stoxx 50. A Puppy Boom We finish on a very positive note for animal lovers. The shift to working from home has generated a puppy boom. The Association of German Dogs claims that “the demand for puppies is endless” and the UK Kennel Club says that “there is unprecedented demand.” In the era of social distancing, the waiting list for puppies has quadrupled, and prices of easy to look after crossbreeds such as cockapoos have more than doubled. The demand for pet food and equipment is also very strong. Dogs make excellent companions for the socially isolated, which describes how many people are now feeling. Furthermore, with millions of people now working from home or on extended furlough, a growing number of households can fulfil the dream of owning a dog. We have recommended a structural overweight to the Animal Care sector based on the ‘humanisation’ of pets and the structural uptrend in spend per pet, especially on veterinary costs (Chart I-7). Animal Care has outperformed by 50 percent in the past two and a half years, but the shift to working from home will add impetus to the structural uptrend (Chart I-8). Chart I-7Animal Care Prices Are Rising... Chart I-8...And The Animal Care Sector Is Strongly Outperforming Stay overweight Animal Care. The ETF ticker, appropriately enough, is called PAWZ.  Fractal Trading System This week’s recommended trade is to short gold versus lead, given that the relative performance recently reached a fractal resistance point that has successfully identified four previous turning points. Set the profit target and symmetrical stop-loss at 13 percent. In our other open trades, five are in profit and one is in loss. The rolling 1-year win ratio now stands at 64 percent. When the fractal dimension approaches the lower limit after an investment has been in an established trend it is a potential trigger for a liquidity-triggered trend reversal. Therefore, open a countertrend position. The profit target is a one-third reversal of the preceding 13-week move. Apply a symmetrical stop-loss. Close the position at the profit target or stop-loss. Otherwise close the position after 13 weeks. * For more details please see the European Investment Strategy Special Report “Fractals, Liquidity & A Trading Model,” dated  December 11, 2014, available at eis.bcaresearch.com.   Dhaval Joshi Chief European Investment Strategist dhaval@bcaresearch.com Footnotes 1    https://www.thelancet.com/journals/lanres/article/PIIS2213-2600(20)30222-8/fulltext Fractal Trading System   Cyclical Recommendations Structural Recommendations Closed Fractal Trades Trades Closed Trades Asset Performance Currency & Bond Equity Sector Country Equity Indicators Bond Yields Chart II-1Indicators To Watch - Bond Yields Chart II-2Indicators To Watch - Bond Yields   Chart II-3Indicators To Watch - Bond Yields Chart II-4Indicators To Watch - Bond Yields     Interest Rate Chart II-5Indicators To Watch - Interest Rate Expectations Chart II-6Indicators To Watch - Interest Rate Expectations     Chart II-7Indicators To Watch - Interest Rate Expectations Chart II-8Indicators To Watch - Interest Rate Expectations    

Highlights In this Weekly Report, we present our semi-annual chartbook of the BCA Central Bank Monitors. All of the Monitors are now below the zero line, indicating the need for continued easy global monetary policy to help mitigate the COVID-19 recession (Chart of the Week). Central bankers have already responded in an intense and rapid fashion to the crisis, delivering a series of rate cuts, increased asset purchase programs and measures to support bank lending to businesses suffering under quarantines. All of these vehicles have helped trigger a powerful rally in global bond markets that helped revitalize risk assets as well. After the coordinated global easing response of the past few months, the optimal policy choices now differ from country to country. This creates opportunities to benefit from country allocation decisions even in a world of puny government bond yields. The overall signal from our Central Bank Monitors is still bond bullish, however – at least over the next few months until there is evidence of how fast global growth is rebounding from the COVID-19 lockdowns. An Overview Of The BCA Central Bank Monitors Chart of the WeekUltra-Accommodative Monetary Policies Are Still Required Chart 2A Bond-Bullish Message From Our CB Monitors The BCA Central Bank Monitors are composite indicators designed to measure the cyclical growth and inflation pressures that can influence future monetary policy decisions. The economic data series used to construct the Monitors are not the same for every country, but the list of indicators generally measure the same things (i.e. manufacturing cycles, domestic demand strength, commodity prices, labor market conditions, exchange rates, etc). The data series are standardized and combined to form the Monitors. Readings above the zero line for each Monitor indicate pressures for central banks to raise interest rates, and vice versa. Through the nexus between growth, inflation, and market expectations of future interest rate changes, the Monitors do exhibit broad correlations to government bond yields in the Developed Markets (Chart 2). All of the Monitors are indicating intense pressure to maintain very easy monetary policies in response to the global COVID-19 recession. While the bad economic and inflation news is largely discounted in the depressed level of bond yields worldwide, there are still opportunities to position country allocations within a government bond portfolio based on the message from our Monitors (overweighting the US, the UK and Canada, underweighting Germany and Japan). All of the Monitors are indicating intense pressure to maintain very easy monetary policies in response to the global COVID-19 recession.  In each BCA Central Bank Monitor Chartbook, we include a new chart for each country that we have not shown previously. In this edition, we show the components of the Monitors, grouped into those focusing on economic growth and inflation, plotted alongside our estimate of the appropriate level of central bank policy interest rates derived using a Taylor Rule. Fed Monitor: Policy Must Stay Accommodative Our Fed Monitor has collapsed below the zero line to recessionary levels (Chart 3A) in response to the coronavirus crisis. The Fed has already delivered a series of aggressive policy responses since March to help support an economy ravaged by the virus, including: interest rate cuts; quantitative easing (QE), including buying corporate and municipal debt; and setting up lending schemes for small businesses. The lockdown of almost the entire country has helped “flatten the curve” of the spread of COVID-19, but at a painful economic cost. The unemployment rate rose to 14.7% in April, the highest level since the Great Depression, and is expected to peak at levels above 20%. The result is unsurprising: a massive increase in spare economic capacity with a threat of deflation as headline CPI inflation plummeted to 0.3% in April (Chart 3B). Chart 3AUS: Fed Monitor Chart 3BUS Realized Inflation Flirting With 0% Within the components of our Fed Monitor, weakening growth has been the main driver of the decline (Chart 3C). Our Taylor Rule estimate suggests a deeply negative fed funds rate is “appropriate”, although the Fed is likely to pursue other avenues of easing like yield curve control before ever attempting a sub-0% policy rate. Chart 3CNegative Rates Are 'Required' In The US, But The Fed Has Other Options The fall in US Treasury yields over the past few months has been in line with the decline in our Fed Monitor (Chart 3D). While the US economy is slowly awakening from lockdowns, consumer and business confidence are likely to remain fragile given the numerous risks from a second wave of COVID-19, worsening US-China relations and, more recently, social unrest. Thus, we continue to recommend an overweight strategic allocation to the US within global government bond portfolios. The fall in US Treasury yields over the past few months has been in line with the decline in our Fed Monitor Chart 3DTreasury Yields Fully Reflect Pressure For More Fed Easing BoE Monitor: Negative Rates On The Horizon? Our Bank of England (BoE) Monitor has collapsed to the lowest level in its history on the back of the severe COVID-19 recession (Chart 4A). The BoE already cut the Bank Rate to 0.1% in March, ramped up asset purchases, and introduced a Term Funding scheme to support business lending. Any additional easing from here might entail negative policy rates, which markets are already discounting. The UK unemployment rate is expected to peak around 8%, with the BoE projecting the economy to shrink by -14% this year, which would be the worst recession in modern history. Inflation has dropped sharply on the back of the dual collapse of energy prices and economic growth, ending a period of currency-fueled inflation increases (Chart 4B). Chart 4AUK: BoE Monitor Chart 4BUK Realized Inflation Is Slowing Rapidly The components of our BoE Monitor fully reflect the dire economic situation (Chart 4C), with weak growth – led by sharp falls in business confidence – driving the collapse of the Monitor more than falling inflation pressures. Our Taylor Rule estimate of the policy rate is not yet calling for negative rates, but that is because we are using the New York Fed’s estimate of r* as the neutral real rate, which is a relatively high 1.4% (by comparison, r* in the US is estimated to be 0.5%). Chart 4CNegative Rates Are Not Yet Required In The UK The sharp fall in the BoE Monitor suggests that Gilt yields will remain under downward pressure in the coming months (Chart 4D). New BoE Governor Andrew Bailey has stated that a move to negative rates is not imminent, but markets will continue to flirt with the notion of sub-0% interest rates until the economy and inflation stabilize. We maintain an overweight stance on UK Gilts. Chart 4DBoE Monitor Suggests Continued Downward Pressure On Gilt Yields ECB Monitor: Continued Monetary Support Is Needed Our European Central Bank (ECB) Monitor is now well below the zero line, signaling a strong need for easier monetary policy to fight the COVID-19 downturn (Chart 5A). The ECB has delivered multiple measures to ease monetary conditions, including a new €750bn bond-buying vehicle and liquidity operations to help banks maintain lending to European businesses.​​​​​​​​​​​​​​ The recession has hit the region hard, with real GDP declining by -3.8% in Q1, the sharpest fall since records began in 1995. Unemployment rates have climbed higher, although to much lower levels than seen in the US thanks to more generous government labor support programs that have helped to limit layoffs. The sharp downturn has resulted in both a surge in spare economic capacity and plunge in headline inflation to 0.3% in April (Chart 5B). Chart 5AEuro Area: ECB Monitor Chart 5BEurope Is On The Edge Of Deflation Within the individual components of our ECB Monitor, both weaker growth and near-0% inflation have both contributed to the Monitor’s decline (Chart 5C). Our Taylor Rule measure shows that the ECB’s current stance of having policy rates modestly below 0% is appropriate. Chart 5CThe ECB Needs To Keep Its Foot On The Monetary Accelerator Despite the ECB’s easing measures, and in contrast to the message from our ECB Monitor, the downward momentum in core European bond yields has been fading (Chart 5D). With the ECB reluctant to push policy rates deeper into negative territory, and with reliable cyclical indicators like the German ZEW and IFO surveys showing signs that euro area growth is starting to recover from the lockdowns, the case for even lower core European yields in the coming months is not strong. We maintain our recommended underweight stance on German and French government bonds. We maintain our recommended underweight stance on German and French government bonds. Chart 5DNo Pressure For Higher German Bund Yields BoJ Monitor: What More Can Be Done? Our Bank of Japan (BoJ) Monitor has fallen further below zero, indicating easier policy is required (Chart 6A). The BoJ has already introduced additional easing measures in the past couple of months: extending forward guidance (inflation is projected to remain below the BoJ’s 2% target for the next three years), increasing asset purchases and enhancing loan programs to small and medium sized companies. New cases of COVID-19 have slowed sharply in Japan, prompting an end to the national state of emergency last week. Importantly, the virus did not hit Japan's labor market as severely as in other developed countries. The unemployment rate did reach a two-year high in April, but is still only 2.6% (Chart 6B). Fiscal stimulus and measures to protect job losses have played a major role in preventing a bigger spike in joblessness. Even with those measures, growth remains weak and realized inflation is heading back towards deflation. Chart 6AJapan: BoJ Monitor Chart 6BJapan Nearing Deflation Once Again Looking at the components of our BoJ Monitor, contracting growth, more than weakening inflation pressures, is the bigger driver of the fall in the Monitor below zero (Chart 6C). However, our Taylor Rule estimate does not suggest that the current level of the policy rate is out of line. Chart 6CBoJ Needs More Easing (Somehow) Until The Economy Revives The BoJ’s current combined policies of negative rates, QE and yield curve control are keeping JGB yields at near-0% levels. Those policies are also suppressing yield volatility and preventing an even bigger fall in JGB yields (with larger capital gains) as suggested by our BoJ Monitor (Chart 6D). We continue to recommend a maximum underweight in Japanese government bonds in a yield-starved world. Chart 6DJGB Yields Will Be Anchored For Some Time BoC Monitor: Deflationary Pressures Intensifying Our Bank of Canada (BoC) Monitor has collapsed into “easier policy required” territory, reaching levels last seen during the 2009 recession (Chart 7A). The central bank has already introduced several easing measures to help boost the virus-stricken economy, including cutting the Bank Rate to a mere 0.25% and starting a QE program to buy government bonds for the first time ever. Before the COVID-19 outbreak, some softening of the economy was already underway. Now, after the imposition of nationwide lockdowns to limit the spread of the virus, the unemployment rate has spiked to 13% - a level last seen in the early 1980s. The result is a massive deflationary output gap has opened up (Chart 7B), with realized headline CPI inflation printing at -0.2% in April. Chart 7ACanada: BoC Monitor Chart 7BOutright Headline CPI Deflation In Canada The fall in our BoC Monitor has been driven by both collapsing economic growth and weakening inflation pressures (Chart 7C). Our Taylor Rule estimate suggests that one of new BoC Governor Tiff Macklem’s first policy decisions may need to be a move to negative interest rates. Macklem and other BoC officials have not played up the possibility of cutting rates below 0%. However, the fact that the BoC provided no economic growth forecasts in the most recent Monetary Policy Report highlights the extreme uncertainties surrounding the economic impact from COVID-19 – even with the Canadian government providing a large fiscal response to the pandemic. Chart 7CBoC Monitor Plunging Due To High Unemployment & Low Inflation We upgraded our recommended stance on Canadian government debt to overweight back in March, and the collapse of the BoC Monitor suggests continued downward pressure on Canadian yields (Chart 7D). Stay overweight. The collapse of the BoC Monitor suggests continued downward pressure on Canadian yields.  Chart 7DCanadian Yield Momentum In Line With The BoC Monitor RBA Monitor: Rate Cutting Cycle Is Done Due to a slump in export demand and a weakening housing market, our Reserve Bank of Australia (RBA) monitor has been consistently calling for rate cuts since April 2018 (Chart 8A). Australia began its easing cycle early, having delivered a total of 125bps of stimulus since June 2019, with the two most recent cuts coming directly in response to the COVID-19 crisis. As in other developed markets, the unemployment gap in Australia has widened dramatically, owing to job losses concentrated in tourism, entertainment, and dining out (Chart 8B). Although inflation briefly breached the low end of the RBA’s 2-3% target band in Q1, this will not be a lasting development. The RBA sees headline CPI deflating by -1% year-on-year in Q2/2020 and, even as far as 2022, only sees it growing at 1.5%. Chart 8AAustralia: RBA Monitor Chart 8BInflation Will Remain Stuck Below RBA 2-3% Target Although both the growth and inflation components of our RBA Monitor are below zero, the former drove the most recent decline (Chart 8C) led by consumer confidence almost touching the 2008 lows. The RBA has already responded by cutting rates to near 0%, well below the Taylor Rule implied estimate, and initiating yield curve control with a cap on 3-year government bond yields at 0.25%. Chart 8CNo Pressure For The RBA To Go To Negative Rates Overall, Australian bond yields have accurately priced in the dovish signal from our RBA Monitor (Chart 8D). With COVID-19 relatively well contained in Australia, there is less pressure on the RBA to ease further. Governor Lowe has also ruled out negative rates, which will put a floor under yields. Owing to these factors, we confidently reiterate our neutral stance on Australian government debt within global fixed income portfolios. Australian bond yields have accurately priced in the dovish signal from our RBA Monitor. Chart 8DAustralian Bond Yields Are Unlikely To Move Much Lower RBNZ Monitor: Cause For Concern After a resurgence late last year, our Reserve Bank of New Zealand (RBNZ) Monitor has declined to a level slightly below zero (Chart 9A). The RBNZ responded to the pandemic by delivering a massive -75bps cut in March, but has since left the policy rate untouched, preferring to deliver further stimulus by doubling the size of its QE program. Forward guidance is signaling that the policy rate will remain at 0.25% until 2021, but the central bank has not ruled out negative rates in the future. ​​​​​​​Although the actual unemployment numbers do not yet capture the impact of the pandemic, both consensus and RBNZ forecasts call for a blowout in the unemployment gap (Chart 9B). The RBNZ expects the steady improvement in inflation seen up to Q1/2020 to be wiped out, with headline CPI projected to remain below the 1-3% target range until mid-2022. Chart 9ANew Zealand: RBNZ Monitor Chart 9BRealized NZ Inflation Was Drifting Higher, Pre-Virus Surprisingly, the inflation component of our RBNZ Monitor is actually calling for tighter monetary policy, owing to significant strength in the housing market (Chart 9C). However, this trend is likely to reverse - the RBNZ foresees a -9% decline in house prices over the remainder of 2020. Meanwhile, growth components such as consumer confidence and employment will remain depressed, holding down our RBNZ monitor. Chart 9CGrowth, Now Inflation, Has Driven The RBNZ Monitor Lower Overall, the momentum in New Zealand bond yields seems to have overshot the message from our RBNZ Monitor (Chart 9D). However, with so much uncertainty about business investment and cash flows from key sectors such as tourism and education, it is too early to bet on an improvement in yields. We therefore maintain a neutral recommendation on NZ sovereign debt. Chart 9DNZ Bond Yields Are Unlikely To Move Lower Riksbank Monitor: Worries For The Coronavirus Mavericks Amid the global pandemic, our Riksbank Monitor has collapsed to all-time lows (Chart 10A). In its April monetary policy decision, the Riksbank opted for continued asset purchases and liquidity measures to support bank lending to companies over a move to negative rates. One of the primary concerns for the Riksbank is headline CPI inflation, which fell into mild deflation (-0.4% year-over-year) in April on the back of lower energy prices and weaker domestic demand (Chart 10B). This could spill over into a lasting decline in long-term inflation expectations if the economy does not quickly improve. Chart 10ASweden: Riksbank Monitor Chart 10BSwedish Realized Inflation Back To 0% Both the growth and inflation components of our Riksbank Monitor are calling for further easing, with the growth component now at post-crisis lows (Chart 10C). The collapse on the growth side can be attributed to historic falls in retail confidence, the manufacturing PMI and employment while the inflation component remains depressed due to low headline numbers and inflation expectations. Chart 10CThe Riksbank Hates Negative Rates, But Could Still Need Them If The Economy Worsens The sharp downward move in our Riksbank Monitor suggests Swedish bond yields should remain under downward pressure in the coming months (Chart 10D). The key factor for yields will be the effect of the relatively lax measures implemented by Sweden to combat the pandemic. Sweden saw positive GDP growth in Q1/2020 due to fewer restrictions on the economy. However, infection and mortality rates are much higher in Sweden than in neighboring countries and, as a result, Denmark and Norway excluded Sweden from their open border agreement. Continued restrictions of the sort are bearish for growth – and bullish for bonds – in this trade-dependent economy. Chart 10DSwedish Bond Yields Will Remain Under Downward Pressure   Robert Robis, CFA Chief Fixed Income Strategist rrobis@bcaresearch.com Ray Park, CFA Research Analyst ray@bcaresearch.com ​​​​​​​Shakti Sharma Research Associate ShaktiS@bcaresearch.com Recommendations The GFIS Recommended Portfolio Vs. The Custom Benchmark Index ​​​​​​​ Duration Regional Allocation Spread Product Tactical Trades Yields & Returns Global Bond Yields Historical Returns