After holding a tactical NEUTRAL position on Bunds since the end of August, we now suggest gradually starting to accumulate exposure at the current levels
I) The recovery in EA will be slower than expected.
Following a deterioration in growth momentum in EA, and given the lack of a clear driver for reacceleration, we have lowered our growth forecast for the EA this year to 0.7% (vs. 0.8% previously) and for 2025 to 0.9% (from 1.3% previously). The main reasons for the downward revisions are:
1)The savings ratio in the EA is on the rise, indicating more cautious con- sumer behaviour, despite the continued growth of real disposable incomes
2)The industrial sector is experiencing a more prolonged decline, exten- ding beyond just energy-intensive industries 1and across the EA, likely linked to an ongoing slowdown in global demand.
II) We expect the ECB to front-load rate cuts resulting in the depo rate rea- ching 2% by the end of H1 2025.
In our opinion, the downward revision to EA growth in 2025 will pave the way to a faster and more front-loaded rate-cutting cycle in 2025. We now expect the ECB to cut rates by 25bp at the December meeting, followed by additional cuts at each of the four meetings in H1 2025, resulting in a depo rate of 2% by June (vs. quarterly 25bp rate cuts that would have taken the depo rate to 2% only at the end of 2025, in our previous forecasts). Further- more, we recognise the growing risks that the ECB may reduce rates even further below the neutral level, for the following reasons:
1)The minutes from ECB’s September meeting indicate that its mem- bers identified downside risks to the growth forecasts right after their release at that meeting1. This, coupled with ECB’s rhetoric at the Octo- ber meeting, suggeststhat the ECB will adjust its growth expectations for 2025 to below potential at the upcoming December meeting. President Lagarde has taken a step further at the October’s meeting, by linking the disappointing growth performance to a quicker convergence of inflation towards target (Figure 1).
2)The grosssaving rate in the EA remains at historical highs (almost 16% at the EA level, 4pp higher than the pre-Covid average), and has so far pre- vented the increase in real disposable income from resulting in increased consumption.
3)Fiscal impulse will continue to be negative in the EA in 2025 (Figure 2), failing to support the recovery, particularly in core countries that are not experiencing the growth stimulus from the NGEU.
Money markets are discounting an ECB rate cut to 2% by June 2025, aligning clo- sely with our updated forecasts. Still, they are not pricing in a depo rate drop much below neutral after June 2025.
Against this backdrop, we believe Bund yields are likely to decrease in the coming months, especially if economic data comes in below expectations.
1 - The cut-off date for the Staff projections is three weeks before the meeting
Chiara Cremonesi
Senior Rates Strategist
Investment Research
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