ECB preview: Ready to scale back QE – Danske Bank

Analysts at Danske Bank suggest that in line with recent ECB communication which points to a preference for a ‘lower for longer’ scenario, they change their call and now expect the ECB to announce a QE extension by nine months at a pace of EUR30bn at today’s meeting.

Key Quotes

“After that, we expect the ECB to end its QE purchases in Q4 18. In our view, a larger scaling down of purchases would ease future QE implementation and higher reinvestment volumes of maturing bonds will also add to the monthly QE flows in 2018. The appreciation pace of the effective euro has slowed since September and is hence less of a headache for the ECB now.”

“According to our projection, inflation will stay below the ECB’s target in 2018.However, we do look for core inflation to remain above 1.0%for the rest of 2017 and 2018, which would be an important argument in the ECB’s QE recalibration decision.”

“We expect the QE extension to be implemented with continuing capital key deviations, while we also consider it likely that the ECB will buy a higher share of corporate bonds, as these purchases will have a more direct economic impact and the ECB’s holdings are not close to the 70%ISIN limit.”

“Apart from a scaling down of QE purchases, we expect the ECB to make no changes to its forward guidance at the upcoming meeting. We also believe it will retain the option to extend the QE horizon or scale up purchases again if the inflation outlook deteriorates. Markets currently expect the first hike only in mid-2019, which we think is fair.”

“From a fixed income perspective, we expect continued support for the periphery and tight ASW-spreads after the QE extension, given support from the reinvestment flows as well as a positive rating cycle. The main risk factor is a QE extension in 2018 that ‘includes’ reinvestment flows or a reduction in monthly purchases to less than EUR20bn for nine months. We do not expect any dramatic steepening of the yield curve, as the ECB will be keen to avoid its 2011 ‘policy mistake’.”

“With regard to the FX market, we do not expect any significant reaction in EUR/USD on the ECB’s QE recalibration announcement, as we have already seen substantial repricing of the ECB in the FX market over the summer. We still see EUR/USD around current levels on a 1-3M horizon with the risks skewed slightly to the downside, although any dips in EUR/USD should be shallow and short-lived. Longer term, we continue to stress that a 2018 rebound towards 1.25 is on the cards, as upside risks still dominate the longer-term outlook.”