HSBC’s Brian Dunnett, inset, said: “A lot of Bermudians have a lot of experience with the US Dollar and the Euro is a diversification away from the US dollar.” *Photo by Nicola Muirhead
HSBC’s Brian Dunnett, inset, said: “A lot of Bermudians have a lot of experience with the US Dollar and the Euro is a diversification away from the US dollar.” *Photo by Nicola Muirhead

It’s the economy, stupid.

Brian Dunnett did not utter those words — a slogan originally attributed to an American political strategist working on Bill Clinton’s initial presidential run.  

HSBC’S European senior fixed income product specialist is much too polite for such a hackneyed phrase. But you wouldn’t have blamed him if he did. Such a retort would have been appropriate when asked by a reporter what significant contributing factors he considered when reading Europe’s fixed income market.

He opted for a more nuanced explanation.

“The way the economy goes is basically going to drive central bank policy. So whether the central banks are going to be hawkish or dovish is very much linked to the way the economy is,” he said.

Mr. Dunnett, who is based in Paris, was in Bermuda last week to give an update on his area of expertise to various Bermudian HSBC clients.

“A lot of Bermudians have a lot of experience with the US dollar and the Euro is a diversification away from the US dollar,” he said.

The relative political stability inside the European Union — compared to 2011-2012 when there was speculation the Eurozone “would blow up and the recession was very strong” — has made his area of expertise more attractive, said Mr. Dunnett.

“Now, things are stabilizing,” he said. “Things have calmed down on the political side. It’s starting to look more attractive.”

He added: “Last year if you look at what happened in US fixed-income actually, your return was negative whether it was US treasuries or US investment grade credit, and that was mainly because what happened when the Fed started talking about tapering — interest rates rose and basically wiped away performance. The Euro market was much more robust and the returns remained positive.

“There was a lot of instability around politics. Every single country was having elections. And every country it didn’t matter if it was left, it was going over to the right, if it was right, it was going over to the left. The only country that stayed the same was Germany. She made it through. Political instability also created instability around the Eurozone  currency.

“Especially around the periphery, bond yields rise around that time because of political instability. That was  particularly true in Italy. The yields rise quite significantly when you have this turmoil around the politics. You’re talking about from seven, seven-and-a-half per cent down to around three-and-a half-per cent. Italy, because of the greater political stability, can go out to the market and refinance their debt much cheaper. That’s brought a lot of calm to the market.”

Expectations

He expects interest rates in the US — where the economic prospects are better than Europe — to rise more so than in the Eurozone.  

“Rates are highly correlated to the economy, so if you have a sluggish economy, rates are going to stay low.”

He added: “Inflation has been decreasing (in Europe) , not deflation, but more disinflation. We’re not at the deflationary level yet, but some countries were approaching it. That would be a very bad situation and something that the ECB wants to avoid. Especially, because the countries in Europe, the deficits are still rising. One thing you don’t want to have in the economy is deflation and rising deficits that’s a recipe for disaster.”