Sorry, Mr. Draghi: traders say the inflation outlook is cooling

Bloomberg.- Sluggish price growth across the euro area looms, challenging Mario Draghi’s plan to curtail monetary stimulus while giving bond bulls a lucky break.

That’s the message from the underbelly of fixed-income markets that suggests the inflation trajectory across the the 19-nation region is not only easing over the next year but for the coming decade too.

Consumer price growth has continuously fallen short of the European Central Bank’s price target for years and February’s reading was just 1.1 percent. And traders who hedge for a living remain decidedly bearish, according to market-derived inflation expectations gleaned from swap prices.

The price-growth projection for one year into the future has dropped to 1.26 percent from 1.45 percent just two months ago, on this metric. The slowdown implied in swaps contrasts with analyst estimates, which have barely budged this year.

Stubborn disinflationary pressures are a headache for policy makers and markets.

The ECB has lavished trillions of euros to jumpstart price growth, with its asset-purchase program scheduled to continue until at least September.

Too bad. Inflation-bond markets project the monetary authority will miss its goal of just under 2 percent by a notable clip. And one of the ECB’s favorite market indicators — a metric signaling five-year inflation expectations starting in five years time — has edged lower since its early February highs. The euro area appears to have lost some of its momentum of late with private-sector expansion registering the slowest pace in 14 months in March, below estimates.

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If swap traders are on the mark, long-term investors will grapple with the challenge of delivering real returns to meet their liability thresholds for the next decade.

“If they have it right, and we’re still not at the point where we’re seeing meaningful traction, it will be very difficult if you’re a pension manager,” said Jeff Donlon, managing director for global strategies at Manning & Napier Advisors, a Rochester, New York-based manager of $24 billion. “How will you meet your actuarial liability?”

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