Chinese Vice Premier He Lifeng is leading trade talks with the US, taking a tougher approach than his predecessor, Liu He. This shift may complicate efforts to lower trade tensions, especially as people hope for less conflict while Trump is still in office. According to Xi Jinping, China is better prepared for negotiations now than during the trade war of 2018-2019. He has put together a team ready to take a firm stance, moving away from the unequal agreements of the past, often referred to as the ‘century of humiliation.’

Potential New Agreement

There is a chance for a new agreement similar to the Phase One deal. Under this arrangement, China would agree to buy US products in exchange for benefits, but China expects equal commitments in return. The current negotiations show a tougher position from Beijing, guided by Lifeng, who has replaced Liu He. The discussions are sharper now, emphasizing that past imbalances will no longer be tolerated. Xi’s team appears more organized and is less inclined to rush to a settlement. While a structure like the Phase One agreement may return, it will not be on the same terms. China sees itself as an equal partner in these talks and wants enforceable reciprocity, not just vague promises. Given this firmness, we need to change how we view cross-border economic negotiations. We can no longer assume that diplomatic gestures will quickly lead to clear outcomes. In the coming weeks, sharp headlines may not closely match price movements, but they still matter. This suggests a shift that could lead to more strategic management of positions—being less reactive and more selective.

Implications of China’s Firmness

If China continues its current negotiating approach and introduces more financial or policy elements, we might see bursts of volatility instead of a steady spread throughout trading sessions. This means timing becomes even more critical for entering new trades or adjusting existing ones. The main focus remains on trade. However, we need to pay attention to how expectations adjust due to these changes. Shifts in tone from leaders may not immediately impact big indicators, but they influence sentiment, which affects liquidity around trades and index-linked assets. We have already seen some compression in implied volatility across key contracts, which seems misaligned with current headlines. This often unravels quickly when sentiment aligns with fundamentals. Trades that used to reliably signal policy direction are becoming less predictable. Observing a quick drop in long-dated exposure volume is notable—investors aren’t committing deeply. Now, the focus is shifting to whether the return to structured purchases will be seen as a starting point or a demand. If it’s the former, the usual indicators in agriculture and tech should become active again. If it’s the latter, traders will likely be more cautious, taking shorter positions and hedging more aggressively. This creates an uneven reaction—steady expectations in official statements may slow forward pricing, while surprising softening can lead to rapid recoveries. This pattern isn’t unusual, but it’s now more actionable than before. Beijing’s preparedness suggests less risk of misinterpreting tough talk as concessions. This limits reactive pricing to actual order data or customs reports. Despite increased focus, many assets still show lower realized volatility outside of major catalysts. This is where patience is essential. There’s an opportunity here for those looking to benefit from expectation gaps—just be mindful when changes arise. Volume trends provide insights. Shorter-term positions show more confidence, while longer ones hesitate. This likely reflects a lack of trust in the durability of these positions under policy strain. This changes how we view market ramps. Movements often start slowly and then accelerate once confirmed. We need to adapt our strategy accordingly. The first trade usually doesn’t follow through fully—it’s often the second move that provides a clearer opportunity. This indicates a market that is still navigating uncertainty but is ready to pivot. As we analyze flow direction and net positioning, we are observing the gap between how headlines are interpreted and how instruments respond. That gap is likely to close once traders adjust to this new negotiation rhythm—one that speaks less but carries greater weight when it does. Create your live VT Markets account and start trading now.

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Recent remarks from bank and credit card leaders indicate that US consumer spending remains steady, even with low consumer confidence. Executives from Goldman Sachs, Mastercard, American Express, Visa, and Bank of America have a positive outlook on spending trends. Goldman Sachs COO John Waldron attributed the strength of the US economy to solid employment and fiscal policies. Mastercard’s CEO Michael Miebach mentioned that spending patterns have stayed stable from the first quarter through May, despite negative news. American Express CEO Steve Squeri highlighted strong consumer spending across various sectors, especially in restaurants. Visa CFO Christopher Suh noted that payment volume data is consistent, showing consumers’ resilience.

Resilience of the US Economy

Bank of America CEO Brian Moynihan shared that consumer spending is up this year, indicating a strong economic base supported by consumers. Together, these comments provide an encouraging view of US consumer spending. This positive trend is likely to continue unless significant economic changes occur. The key takeaway is that consumers remain active. Even though surveys show low confidence, people’s behavior tells a different story. Executives from major financial institutions report that spending, dining out, and everyday activities continue as usual. Not one of them noted a significant drop in discretionary spending. Waldron linked steady spending to stable jobs and supportive fiscal policies. Jobs are crucial for household budgets, and his comments suggest there is no widespread anxiety about job losses. Miebach reinforced this by highlighting that spending patterns have remained steady despite negative headlines, signaling that consumers are not reacting with unnecessary caution. Squeri provided a breakdown of spending by categories, emphasizing the importance of restaurant performance. When people start cutting back, they usually reduce non-essential spending first. The fact that restaurants continue to thrive indicates that households feel secure enough to spend on leisure, not just necessities. Suh shared data on payment volumes, which reflects overall consumer behavior. His remarks suggest that spending levels have not drastically changed, providing reassurance about consumer health.

Economic Implications and Market Positioning

Moynihan directly referred to year-to-date trends, a timeframe that reflects true consumer behavior. His notes on increasing spending into mid-year imply solid consumer activity. What does this mean for us? It reduces the uncertainty traders often face. Low confidence usually suggests caution, but when spending remains strong, it limits how bearish predictions can be. Traders betting on a quick downturn may find less incentive to act given this information. Consumer credit conditions are likely to show signs of trouble before this group signals any significant issues. It’s important to note that inflation remains a factor, and while wage growth isn’t directly addressed, the strength of consumer spending may put pressure on expectations around interest rate cuts. If consumers are still actively spending and no major downturn is seen by large card processors or banks, the Federal Reserve may feel less inclined to change rates quickly. This ongoing consumer activity may also prevent the volatility some expect in retail-heavy equity indices. Short-term traders should consider that there is no clear directional signal from consumer spending. Implied volatility may remain low, and it seems more likely for consumer sectors to stabilize based on this data. When sizing positions related to services or discretionary spending, one should recognize the surprisingly strong footing of consumers. Sentiment-driven setups based solely on consumer surveys may not find strong support from the actual transaction data. Overall, we see a market that is managing downside concerns more effectively than surface data suggests. Traders focused on short-term moves should align with the stability highlighted by these corporate leaders—at least for now. Create your live VT Markets account and start trading now.

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Switzerland’s Consumer Price Index (CPI) showed a negative result, which was in line with expectations. The core inflation reading fell to 0.5% from 0.6%. Despite this, market expectations remain unchanged, with a 55 basis points (bps) cut expected by the end of the year and a 34% chance of a 50 bps cut at the Swiss National Bank (SNB) meeting next. In the Eurozone, CPI figures did not meet expectations. Core inflation decreased to 2.3% from 2.7%, and services inflation dropped to 3.2% from 4.0%. However, this has not impacted the market outlook, as a 25 bps cut from the European Central Bank (ECB) is expected this week, with the possibility of more cuts by year-end.

Central Bank Leaders

During the session, central bank leaders spoke, but they didn’t provide any new guidance. The Bank of Japan’s (BoJ) Ueda said that rate hikes will depend on certain inflation and trade conditions. Representatives from the Bank of England (BoE) believe that disinflation is likely to continue, with rates expected to drop due to growth risks that are not fully reflected in GDP data. In the U.S., attention shifts to Job Openings data, which is anticipated to decline to 7.100 million from 7.192 million. This change is not expected to significantly impact markets, given that Jobless Claims and Non-Farm Payroll (NFP) reports are expected soon. Recent figures show a consistent trend: inflation is decreasing in many developed economies, and central banks are monitoring it closely. In Switzerland, both headline and core inflation have declined, matching earlier estimates. Money markets suggest traders expect continued easing, with a firm consensus for a total of 55 bps in rate cuts by year-end. This indicates that market participants are focusing more on broader disinflation trends rather than short-term fluctuations. In the Euro area, CPI data surprises support those anticipating quicker monetary easing. The reduction in services inflation is especially noteworthy. This measure is often used to gauge long-term inflation pressures, as it is less influenced by energy prices or seasonal changes. The drop from 4.0% to 3.2% indicates that wage pressures and internal demand are not as strong as previously feared. The expected rate cut in June seems more like the start of a series of actions rather than a one-time event, as swap markets are pricing in additional cuts for later in the year.

Policy Outlook

BoJ’s Ueda maintained a cautious tone, emphasizing that policymakers are willing to wait for data to provide clarity, especially regarding wages and external demand. His remarks aligned with previous statements, indicating no immediate action is expected. In the UK, Monetary Policy Committee members were clearer, mentioning that weakening domestic output and underlying issues in GDP are hard to ignore. Their perspective suggests that rates are currently too high for the prevailing conditions and may need to be lowered. This viewpoint is based not only on GDP but also on demand indicators and inflation expectations, both of which have softened recently. In the U.S., the upcoming job openings data will complete the labor market picture, but market experts don’t expect significant movement from this report alone, as the numbers have been gradually declining. More focus is on upcoming jobless claims and employment data, which carry more future implications. If job growth continues to slow or fails to pick up, it will have a more direct impact on market pricing. Traders focused on volatility and rate decisions should pay more attention to the overall sentiment in central bank discussions, especially regarding growth. Inflation is weakening across the board, but it’s the recognition of slowing growth that will shift monetary easing from a mere expectation to an urgent necessity. This change in sentiment can be more impactful than a single month’s data and often occurs quietly. Positioning before central bank meetings should reflect this shift. We believe that the cautious stance in recent sessions indicates that many traders are still prepared for a slower pace of easing than the data suggests is prudent. Create your live VT Markets account and start trading now.

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The United States has given Vietnam a long list of demands during ongoing tariff talks. A main point is for Vietnam to lessen its reliance on Chinese supply chains. These negotiations are complicated. Vietnam tries to balance its trade relationships, while the US is wary of China using Vietnam as a way to bypass trade rules—this is known as origin washing.

What is Origin Washing?

Origin washing happens when goods’ origins are misstated to avoid trade regulations. This makes it harder to reach a fair trade agreement. The US has made it clear that supply chain transparency is crucial, especially for imported goods that might not accurately reflect their path to the American market. By identifying Vietnam as a possible loophole for Chinese products, the focus has turned to strict enforcement rather than just cooperation. As a result, tariff discussions have moved from theoretical to concrete, where compliance and documentation are essential. This shift could lead to delays in product approvals or require more paperwork at ports. Even companies with established trade links through Vietnam might face increased scrutiny. What started as simple tariff discussions has evolved into a complex issue of supply chain management, which could hinder progress in other trade areas if not managed carefully.

Impact on Global Trade

Yellen’s team is likely coordinating this pressure with larger efforts to control the flow of high-tech parts, metals, and finished goods being rerouted through Southeast Asia. Washington aims to spot potential issues early, especially when changes in the flow of components indicate attempts to avoid tariffs. For those monitoring short-term market fluctuations, this heightened pressure on Vietnam’s trade practices may impact import volumes and commodity prices tied to electronics and textiles. We can expect information releases to cause price swings, and technical resistance levels may not hold up amid this uncertainty. While Hanoi appears calm publicly, internal signs show they are preparing for tighter inspections on shipments to the US, as this could affect their export economy’s stability. US trade officials suggest there won’t be many second chances. Future quotas and exemptions may not easily be renegotiated, so any fleeting optimism should be approached with caution. This situation calls for tighter hedging strategies. Spreads in derivatives linked to Vietnam could narrow if market sentiment shifts back to traditional Asian suppliers. However, if tensions rise, even secure options trades might lose effectiveness. Multi-asset strategies should adjust exposure to reflect low-certainty trade variables. Cash positions might need to be rebuilt in the coming sessions if they’ve been temporarily reduced. It’s unlikely US negotiators raised these concerns without supporting data for enforcement follow-through. This means changes in Vietnam’s customs activity are not only likely but can be tracked against past averages. If monitoring tools like shipping manifests detect changes, derivatives tied to ASEAN export levels may lead relevant benchmarks by several days. This is just the beginning. A declining interest in risk trades tied to regional processing could influence options pricing for key industrial inputs, especially those with complicated routing. These are not speculative worries—they’re direct consequences of tighter customs networks. In short, regulatory issues are shaping contract terms long before shipping docks come into play. Create your live VT Markets account and start trading now.

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The Trump administration has asked countries to provide their “best offers” for trade talks by Wednesday. However, it seems that the European Union (EU) has not received this request. EU Trade Commissioner Sefcovic will meet with his US counterpart, Greer, later this week. This meeting comes just 36 days before a key deadline. This situation creates a sense of urgency in the push to restart trade discussions that have been stalled for more than a year. The request for “best offers” by Wednesday indicates a limited time for negotiations, showing that Washington wants to move forward before important political events. The fact that Brussels had not received any formal communication suggests a possible breakdown in coordination or a strategic decision to apply pressure on key partners first. Either way, this puts Europe at a disadvantage in terms of timing. Sefcovic’s meeting with Greer will be the first formal discussion between them since March. Scheduling this meeting just days after Washington’s request seems intentional. With only 36 days until the trade authorization deadline, both sides will need to quickly draft documents that satisfy both domestic and international concerns. Since past talks have often failed at the last moment, expectations are being kept low publicly, but it’s known that internal discussions are considering several backup plans. From our viewpoint, it’s less important if the EU meets the deadline and more about how clear and final their submission appears to American officials. If the proposals seem tentative or unclear, they might be dismissed as mere political gestures. Therefore, we should expect the offer to specify tariff adjustments, gradual reductions over certain timeframes, and access thresholds. It appears that the Americans want these details documented clearly. Market participants focused on metals, agricultural exports, and aviation contracts should keep an eye out for any mention of volume limits or adjusted subsidy figures. These could be early indicators of what will gain traction during the meetings. Any changes that affect regional prices could create trading momentum, especially if the joint press release seems overly aggressive or optimistic. It’s important to note that when verbal commitments turn into numbers, volatility often arises, leading to pressure on carry structures and short volatility positions. Additionally, we’ve observed that bilateral tensions usually impact mid-term derivatives more than short-term ones, especially when access rights have review periods extending into 2025. If this pattern continues, risk could manifest at unpredictable intervals. Don’t expect prices to move in a straight line when geopolitical factors are involved — things often shift even when initial announcements appear straightforward. Lastly, historical trends indicate that US trade negotiators tend to soften their tone once deadlines are within a month, especially after meetings with the media. If Thursday’s briefing has a measured tone, it could create an opportunity for a short-term reversal in correlation trades that were previously based on a bearish outlook. If you are monitoring Q3 rate implieds for potential shifts, consider comparing them with any sector-specific exceptions mentioned later this week. It’s clear that we are now in a phase where headlines can significantly influence model-based strategies. Therefore, it’s crucial to assess exposures not only for directional risks but also for gap risks, especially for products linked to regulated goods.

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Comments from the Bank of England Governor indicate that recent interest rate decisions were shaped more by domestic conditions than by tariffs. Inflation has remained steady, but the labour market has eased a bit. Wage growth is still higher than what would normally align with a 2% inflation target, although it has slowed more than expected since February. Even with the highest core inflation rate among major economies, predictions for the June rate decision are still uncertain. It’s anticipated that rates will remain stable, in line with market expectations. However, interest rates are generally trending downwards, though the details of this decline are unclear due to international uncertainties.

Global Trade Impact

Disrupted global trade is hurting overall growth and causing UK businesses to hesitate on investments. The effect on prices is mixed, and we are not seeing the same supply chain issues or inflation spikes that we did in 2021. Before the May policy decision, the Governor was cautious, weighing several unstable factors that are affecting the economy. What we have observed so far indicates that the UK’s monetary policy is still firm but starting to lean toward eventual easing—though this process is not straightforward. Bailey emphasized that the Committee didn’t just react to global factors like tariffs but considered the domestic economy’s nuances. Labour availability has tightened, and wages aren’t growing as quickly as earlier in the year, suggesting a softening in household demand. Yet, wage increases are still higher than what would be ideal for stable inflation. Although they have slowed, they remain above the 2% target, indicating that the downward pressure on inflation is not strong enough to cause a quick policy change. It isn’t just about whether the job market is strong or weak; the pace of change hasn’t been enough to justify a significant shift. From our perspective, this does not support an abrupt change in interest rates. There’s an interesting disconnect right now. Core inflation remains high compared to other countries, yet the domestic pay growth keeping those prices high is declining. This inconsistency complicates predictions about future policy easing. In practical terms, calls for a rate cut in June seem premature. Markets are expecting stability, which is unlikely to change unless there are significant developments.

Global Demand Backdrop

Another factor adding to the uncertainty is the global demand environment. The fragmentation in international trade—due to policy differences and geopolitical issues—has removed some advantages for UK exports. This disruption hinders investment planning, especially for businesses that rely on international trade. We’ve noticed that companies are hesitant to invest, which negatively impacts productivity. However, even with slower business investments, we are not experiencing the price spikes that disrupted supply chains a few years ago. This situation helps maintain some stability in input cost forecasts. Currently, major inflation pressures are more related to services and wages than to transportation or commodity shortages. The Governor’s last-minute change on the latest vote underscores the careful nature of their decision-making. This wasn’t just a simple pause; it was a measured response based on evidence that is softening—but not rapidly enough for decisive action. For us, this means that any sudden changes in rate expectations remain unwarranted until data shows more concrete shifts. In the near future, we expect the risk profile to stay stable, unless unexpectedly high wage or inflation data emerges. Global uncertainties still pose challenges, but they are not influencing the system as they once did. This suggests that current strategies should focus on interest rate stability while remaining flexible as the global situation evolves. Create your live VT Markets account and start trading now.

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The Bank of England policymaker confirmed that the disinflation process is still happening. All members of the Monetary Policy Committee agree, except one who sees more risks ahead. Supply chain data shows clearer signs of disinflation than complex wage data. Core inflation, which stalled at 3.2%, has now risen to 3.8%. Current observations suggest that inflation is slowly declining, though this decline isn’t as smooth as expected. The increase in core inflation from 3.2% to 3.8% indicates that domestic price pressures might not be easing consistently. Wage data remains tricky to interpret due to distortions and delays, but supply chain improvements have led to lower goods prices—an early sign of reduced cost pressures in some economic areas. One Committee member is more aware of the possibility that inflation may drop more than expected. This could lead to greater room for easing later this year. This viewpoint contrasts with the broader agreement among Committee members, who all acknowledge that prices are generally heading downward. Given this division in perspectives and the recent rise in core inflation, we can expect future policy decisions to be more staggered. It’s not the right time for large directional positions. Instead, it’s wiser to focus on short-term interest rate volatility rather than making bold bets on rates. This is especially true since upcoming data, particularly on wage growth, will significantly influence how the markets adjust to any future policy changes. Price movements in short sterling futures reveal uncertainty about when the first rate cut might happen. The latest adjustments show the market stepping back from earlier optimism. We also observe an increase in near-term implied volatility, as traders begin to hedge against a slower policy response, which aligns with the inflation data trends. Some risks still depend on global factors, especially energy and trade, but our main focus is on the domestic situation. The main drivers of inflation now come from services, meaning wage data, despite its noise, will remain in the spotlight. Policymakers are cautious and may change their approach depending on how clear the next data reports are. For now, we are actively engaged in the middle of the curve, favoring strategies that benefit from a steeper front end. This reflects our belief that the Bank will hold off on aggressive actions until more solid evidence of disinflation appears. Policy is not predetermined, and the current market environment requires flexibility.

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The deputy governor of the Bank of England, Sarah Breeden, recently spoke at a monetary policy hearing for the Treasury Committee. She noted that the UK is making steady progress in reducing inflation, with the economy moving towards having too much supply. Breeden emphasized the need for future policy decisions to keep inflation on track. She expects tariffs to have little impact on the UK economy. Additionally, she mentioned that new surpluses in the labor market would guide policy changes.

Thinking About Rate Cuts

Breeden pointed out that there was already a discussion about lowering the bank rate in May, even before the effects of tariffs were clear. She argued that inflation in the UK is now decreasing steadily, showing that price pressures are easing. At the same time, the balance of supply and demand is changing, with the economy producing beyond its immediate needs. This change may create less pressure on prices, a situation we haven’t seen for years due to high inflation and tight labor markets. For those of us monitoring interest rates, Breeden’s comments clearly indicate that policymakers are ready to act even before all data is available. The early discussions about rate cuts in May, despite possible tariff impacts, reveal their careful risk evaluation. While tariffs typically cause cost-related complications, Breeden suggested that their impact on inflation would be limited. This means we should not assume that import costs will force permanent price increases. It’s important to avoid overreacting to headlines and instead focus on what the Bank identifies as the main influences.

Attention to Wage Developments

She also highlighted that changes in job market slack—the unused labor—are being analyzed more closely. This slack directly affects wage growth, a significant factor for core inflation. If wage growth weakens, this supports the idea of a more relaxed policy. As traders, we may now need to anticipate that rate cuts could happen sooner than expected, possibly under less favorable conditions than previously thought. This could lead to a flatter, lower near-term rate outlook. Any options strategies should reflect this shift in perspective, adjusting forward curves downward. A strong belief in higher rates, especially at the shorter end, may fade quickly if economic indicators weaken. Pricing models that assume ongoing inflation or a tightening stance within six months might need revisiting. Analysts should stress-test scenarios where rate cuts occur more frequently, or sooner than currently anticipated. While forward guidance is still implied rather than stated clearly, Breeden’s comments suggest that the bar for action is lower than some may think. We should also consider gilt volatility, especially for shorter maturities. If the Bank begins to shift rates more quickly, we might see increased risk premiums as confidence in the policy path drops. In summary, when market signals begin to align with central bank messaging, it’s important to adjust strategies. We now have a strong indication of the potential direction of policy, and being inflexible risks mispricing this change. Reevaluating curve exposure, especially in the middle term, should be a priority. Create your live VT Markets account and start trading now.

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A Bank of England policymaker prefers a new approach to the bank rate. They worry that strict policies may limit demand and discourage investment. Currently, risks to inflation and economic growth appear to be downward. This approach could impact overall economic stability and future growth. The statement indicates a change in sentiment within the Bank of England’s policy committee. One policymaker is reconsidering the current interest rate path, believing it may be too strict. The concern is that if rates stay high for too long, borrowing will cost more. As a result, consumers may spend less, and businesses could hesitate to invest in new projects or hire more staff. This situation could slow economic growth and lower inflation, but it may also lead to weaker performance in the coming quarters. So, what does this mean for us? We should pay attention to how other committee members respond in their speeches or meeting notes. If more members begin to share this viewpoint, interest rates could change more quickly than expected. Consumer inflation, while still above the target, has been slowing down. At the same time, businesses report reduced demand, especially for goods. Although the labor market is still tight, there are fewer signs of increasing wages. For now, Bailey leans toward patience. However, dissent from others indicates rising concerns within the central bank about excessive tightening. Investors predicting future rates should watch for any changes in guidance or unexpected actions. If this sentiment spreads, adjustments may be needed in the swap markets. Economic data will play a crucial role in setting rate expectations. For example, if retail sales, wage settlements, or services PMI figures come in lower than expected, this would strengthen the case for holding rates or even cutting them. The growing risks in both growth and price stability mean it’s less about inflation hitting the target and more about preventing recession-like numbers. Given this, traders in short-term interest rate products might need to rethink their expectations. Yield curves are already flattening, indicating lower expectations. However, implied volatility suggests that the market hasn’t fully settled on the Bank of England’s direction yet. We could use this uncertainty to explore opportunities in options strategies, especially where volatility is undervalued based on the current macro situation. If rates do drop more quickly than initially predicted, any repricing in short sterling futures and SONIA swaps will reflect that. Still, any changes will likely be gradual unless economic indicators significantly worsen. It’s wise to stay adaptable and reassess using shorter time frames, particularly with more policy communications and GDP updates coming soon. We suggest reducing exposure to directional bets unless backed by upcoming data. Instead, consider relative value trades where the policy differences between the Bank of England and other central banks are more evident. As always, liquidity conditions affect premiums, so adjusting positions before the month ends could provide better entry points. For clients involved in collateral or hedging, adjusting discount curves might have short-term effects, especially if sterling positions need rolling or rebalancing ahead of the next policy meeting. Although waiting for clearer signals may seem appealing, current conditions suggest that implied rates might not stay this low for long.

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Eurozone’s preliminary Consumer Price Index (CPI) for May has risen by 1.9% year-on-year, which is slightly lower than the expected 2.0%. This differs from April, where the rate was higher at 2.2%, indicating a slowdown in inflation. Core CPI, which excludes unpredictable food and energy prices, increased by 2.4%, below the expected 2.5% and down from April’s 2.7%. These numbers hint at easing inflation pressures, which may lead the European Central Bank to consider a rate cut in their next meeting.

Cooling Inflation Measures

We are observing a continued cooling in both overall and core inflation in the euro area. The flash estimate for May confirmed a drop from the previous month. Headline CPI fell to 1.9% year-on-year—just a bit shy of predictions, but enough to suggest that pressures on consumer prices might be decreasing more quickly than expected. Core inflation, which policymakers prefer because it excludes more volatile components like food and energy, also eased more than anticipated. The decline from 2.7% in April to 2.4% in May indicates that underlying pricing trends are softening. Traders should pay attention. If we view the gap between expectations and reality as part of a larger trend, we see a gradual shift in monetary policy assumptions. The European Central Bank now has additional evidence to adopt a slightly more accommodating stance. Before this, markets were already pricing in the chance of a rate cut, but this data boosts confidence—especially if wage growth and services inflation remain controlled in upcoming reports. In terms of positioning, shorter-term rates are adjusting to this possibility, with swaps markets starting to show a stronger likelihood of a move at the next meeting. German bunds and short-term sovereign spreads have begun to reflect these changes, with tighter ranges and lower yields observed in the 2Y to 5Y segment.

Future Outlook

Looking ahead, attention may shift to service cost disinflation and monthly wage negotiations in key member states like Germany and France. If unit labor costs stabilize or decrease, this could further push expectations for a rate cut. It wouldn’t make sense to bet against softening policy if this trend continues. However, the ECB remains alert to external shocks and geopolitical issues, so even though inflation seems to be easing, caution is still needed. At this point, there’s no need to significantly change implied volatility, but interest in gamma positioning may rise depending on comments from ECB members leading up to the decision. If Lagarde and her team shift their messaging from a wait-and-see approach to one of action, we could see the curve react. We also note that recent movements in EUR-denominated rates have been more influenced by macro data than central bank comments. This trend may continue in the short term, although liquidity during the summer could impact flow-driven signals. Regarding hedging strategies, there’s an opportunity to move away from higher convexity shorts into spreads that benefit from a flattening euro curve. Those who stick to April’s pricing assumptions might find themselves on the wrong side of the next CPI revision or producer price updates, especially with seasonal effects starting to emerge in the third quarter. In summary, we have data moving gently towards a direction that requires us to stay responsive. If future Eurozone reports confirm this trend (and that’s a significant “if” based on wage data), we can expect further shifts in the front end of the curve that favor carry and roll-down strategies heading into summer. Create your live VT Markets account and start trading now.

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