EGBS: Fundamentals Point To Unwind Pressures for Recent Italy/Spain Narrowing

• -8,000 0QM5 96.87/97.00/97.25/97.3 call condors, 2.87 ref 96.98
• +2,500 0QM5 97.50/98.00/1000 2x3x1 call flys 7.0 vs. 96.365/0.14%

The latest and final gold-adjusted Atlanta Fed GDPNow estimate for Q1 growth is a new low going into tomorrow's GDP print, on the back of the much larger than expected March goods trade deficit offset slightly by higher inventory change estimates. 

• "The final GDPNow model estimate for real GDP growth (seasonally adjusted annual rate) in the first quarter of 2025 is -2.7 percent on April 29, down from -2.4 percent on April 24. The final alternative model forecast, which adjusts for imports and exports of gold is -1.5 percent. After this morning’s Advance Economic Indicators release from the US Census Bureau, the standard and alternative model nowcasts of the contribution of net exports to first-quarter real GDP growth declined from -4.90 percentage points and -2.85 percentage points, respectively, to -5.26 percentage points and -4.05 percentage points."
• This is much more negative than the 0.3% growth figure for Q1 growth expected by consensus in Wednesday's release.

Although the market is currently focused on how many more cuts the ECB will deliver and the speed in which it reaches the terminal rate, attention will soon shift to assessing whether rate hikes are plausible in 2026. Some analysts have already pencilled hikes into their baseline projections, e.g. UBS see 50bps of hikes in late 2026.

• The ER H6 / Z6 spread is currently 16.5 ticks, off the April 9 high of 21.0 ticks. These levels crudely imply a ~65% probability of an ECB hike between Q2-Q4 2026 (for now abstracting from the liquidity/credit component embedded within Euribor futures).
• While it is reasonable to assume a 2026 hike is more likely than a cut at this stage, current pricing may still be considered too hawkish, given uncertainty around whether higher trade barriers and German fiscal spending will be inflationary in the medium-term.
• On the first channel, higher trade barriers may not culminate in higher Eurozone inflation if (1) Chinese disinflationary trade diversion is material, (2) EU retaliation against the US is limited and (3) the real effective Euro holds onto or extends recent strength.
• Meanwhile, the hawkish-leaning Bundesbank President Nagel suggested on April 23 that the German fiscal package will not be inflationary. Analyst forecasts submitted to BBG also do not yet incorporate a material uptick in 2026 German inflation.
• The current Euribor-implied terminal rate is 1.66%, indicated by the H6 contract. That’s off the recent dovish closing extreme of 1.58% on April 22, but still well above the 1.94% just before the April 2 US tariff announcement and the 2.16% following the German fiscal announcement/March ECB decision.