Markets

A rising tide lifts all boats. Or in this case, a rising Chinese stock market lifts global risk sentiment. More fiscal spending, measures to stabilize the property sector, potential capital injections in the largest banks and forceful rate cuts are now also part of the toolkit announced earlier this week. European stock markets closed up to 2.35% (!) higher for the Eurostoxx50 with main US benchmarks extending their record race (+0.4%-0.6%) though closing off the day’s best levels. Most Asian stock markets show signs of some consolidation this morning, apart from China which adds another 5%-7% to an already record-week.

US eco data included a minor upward revision in the final Q2 print (3% Q/Qa), but especially consensus-beating durable goods orders (August) and lower weekly jobless claims (218k). Although second tier and coming ahead of PCE deflators (today) and ISM’s, ADP employment change and payrolls (next week) they did manage to swing the November Fed pendulum more into balance between a 25 bps and a 50 bps rate cut. Changes on the US yield curve ranged between +7 bps (2-yr) and -0.9 bps (30-yr).

Lower oil prices partly help explain the strong curve shift with Brent crude prices dropping from $75/b to $71/b over the past two days. The move is linked to talk that Saudi Arabia is ready to abandon its unofficial $100/b oil price target. The FT reported that they would boost output from December 1st to regain market share. Bullish risk sentiment and lower oil prices balanced out interest rate support for the dollar. The greenback was going nowhere for most of the session and even lost some ground in the final stages of US trading. EUR/USD closed at 1.1177 from a start at 1.1133.

Today’s agenda contains first national European CPI indications for September (France, Spain, Belgium). Together with already released awful September PMI’s, they are the only input for the ECB in the short intermeeting period between September and October. PMI brough the possibility of a 25 bps rate cut back on the radar from a market point of view. We’re still in favour of a pause. When it comes to inflation numbers, ECB Lagarde at the press conference already “hedged” today and next month’s numbers by saying that they could fall somewhat further now before ticking up into year-end as energy-related base effects turn around.

We’d be surprised though if markets pick up that nuance today, suggesting that lower inflation numbers could add to short term easing bets. Any potential euro weakness should remain short-lived going into next week’s big US eco week.

News & Views

Tokyo core inflation excluding fresh food printed at 2% Y/Y (from 2.4%) this month, matching the BoJ target. This move was mainly due to a reinstalment of measures to ease the cost of utilities (gas and electricity). The government measures are estimated to have reduced inflation by about 0.5%. A more strict core measure, excluding fresh food and energy was unchanged at 1.6%. Tokyo CPI data are seen as a good pointer for the national figure that will be released later next month.

The October CPI reports are more important for BoJ policy setting as they might include price adjustments at the start of the fiscal second half of the year and give an indication on the degree that corporates are passing through the cost of higher wages. The Japanese yen didn’t respond to the inflation data, but suffered a setback (USD/JPY 146.50 from 145) after BoJ easing advocate Takaichi made it to the LDP leadership contest runoff (facing Ishiba).

The Bank of Mexico for the second consecutive meeting lowered its policy rate by 25 bps to 10.50%. Vice governor Jonathan Heath vote for an unchanged decision. The bank was mildly constructive in the inflation outlook going forward. Annual headline inflation decreased from 5.57% in July to 4.66% in the first fortnight of September. Core inflation continued trending downwards(3.95% Y/Y). It estimated that, although the outlook for inflation still calls for a restrictive monetary policy stance, its evolution implies that it is adequate to reduce the level of monetary restriction.

The forecasts for headline and core inflation were revised slightly downwards for some quarters in the short term. Headline inflation is still expected to converge to the target in the fourth quarter of 2025. The Mexican CB targets 3.0% +/- a 1.0% tolerance band. The Mexican peso which traded in the defensive since April but came off the early September lows recently, closed yesterday’s session little changed near USD/MXN 19.63.

Graphs

GE 10y yield

The ECB cut policy rates by 25 bps in June and in September. Stubborn inflation (core, services) make follow-up moves less evident. We expect the central bank to stick with the quarterly reduction pace. Disappointing US and unconvincing-to-outright-weak EMU activity data dragged the long end of the curve down. The move accelerated during the early August market meltdown.

US 10y yield

The Fed kicked off its easing cycle with a 50 bps move. It is headed towards a neutral stance now that inflation and employment risks are in balance. Conservative SEP unemployment forecasts risk being caught up by reality and with it the dot plot (50 bps more cuts in 2024). We hold our call for two more 50 bps cuts this year. Pressure on the front of the curve and weakening eco data keeps the long end in the defensive for now as well.

EUR/USD

EUR/USD moved above the 1.09 resistance area as the dollar lost interest rate support at stealth pace. US recession risks and bets on fast and large rate cuts trumped traditional safe haven flows into USD. An ailing euro(pean economy) only briefly offset some of the general USD weakness. EUR/USD’s dollar-driven ascent is nearing resistance around 1.12 again.

EUR/GBP

The BoE delivered a hawkish cut in August. Policy restrictiveness will be further unwound gradually on a pace determined by a broad range of data. The strategy similar to the ECB’s balances out EUR/GBP in a monetary perspective. But the economic picture is increasingly diverging to the benefit of sterling. EUR/GBP succumbed to horrible European September PMI’s. Support at 0.84 broke and brings the 2022 low (0.8203) on the radar.

Source: ACTIONFOREX

Source: EuroNews 

US Treasury curve dives into cuts and risks being caught by upside surprises

While markets are prepared for more US data disappointments, the durable goods orders and jobless claims both performed better than consensus. The outperformance wasn’t much, but nevertheless moved the 2Y UST yield higher by some 5bp and shaved off 4bp of cuts for 2024. Such a reaction really underlines the pessimistic positioning of markets and the expectation of an economy grinding to a halt.

In a broader sense, recent economic surprises have improved recently, yet the front end of the US Treasury curve continues to dive deeper into cuts. Of course, positive economic surprises are also more likely when consensus turns more pessimistic, but even then the latest data points are far from recessionary territory. A slowdown is still our baseline, but the sentiment in rates markets may see some recovery if the data doesn’t deteriorate as promptly as feared, potentially helping the back end of the curve retrace higher. 

Next move in EUR curve likely to be driven by US

EUR markets remain sensitive to the idea of an October European Central Bank cut and news headlines about Governing Council members supporting an October cut have added fuel to the fire. At the same time, EUR rates are very sensitive to the US economic outlook, which based on Thursday’s data is showing pockets of resilience. Netting these two out meant little change in the EUR rates curves.

Overall we expect EUR rates to trade sideways for the time being. And although we don’t think an October cut will happen, we also don’t think there will be enough data until then to conclude that with more certainty. The next move for the EUR curve could therefore come from the US, where a recovery in sentiment could provide some upward pressure on the back end of global curves.

US economic surprises making a recovery

Today's events and market view

Friday’s data highlight is the personal income and spending report, with the core personal consumer expenditure deflator the key number within it. Core CPI came in at a relatively “hot” 0.3% month-on-month, but the core PCE should come in at 0.2% given the lower weighting for housing. As such, this should confirm that inflation is not a barrier to further Fed cuts. We will also get the final University of Michigan consumer sentiment index which could be followed more closely after the Conference Board's disappointing report earlier this week. There will also be a busier slate of Fed speakers to watch including Susan Collins, Adriana Kugler and Michelle Bowman.

In the eurozone, the main events are ECB related, with speeches from Olli Rehn, Joachim Nagel and Philip Lane. On the data side, only the ECB's results of the consumer inflation expectations survey are of note.

Italy will be auctioning 5Y and 10Y bonds as well as floating rate notes for a total of up to €8.75bn.

EUR/GBP retraces its recent losses from the previous session, trading around 0.8340 during Friday’s Asian hours. However, further gains may be limited, as the Euro’s performance against major currencies remains weak amid increasing speculation that the European Central Bank (ECB) could lower the Deposit Facility Rate for the second consecutive time next month. This would mark the ECB's third dovish move this year.

ECB Chief Economist Philip Lane will likely deliver the opening remarks at a conference focused on Fiscal Policy, Financial Sector Policy, and Economic Growth in Dublin, Ireland. Meanwhile, ECB board member Piero Cipollone will give a keynote speech at the "Economics of Payments XIII" conference, organized by the Austrian Central Bank.

According to a Reuters report, economists at HSBC anticipate that the ECB will reduce interest rates by 25 basis points at each meeting from October through next April. Meanwhile, Societe Generale economist Anatoli Annenkov suggested there is a case for front-loading the rate cuts, indicating a preference for more aggressive action earlier in the easing cycle.

On the GBP side, expectations that the Bank of England's (BoE) rate-cutting cycle will likely proceed more slowly than the ECB’s should continue to support the British Pound (GBP) and exert downward pressure on the EUR/GBP cross.

The BoE allotted 37.059 billion pounds ($49.52 billion) in seven-day funds during its weekly short-term repo on Thursday, down from last week’s record of 44.523 billion pounds. Repos, or repurchase agreements, allow banks to temporarily exchange government bonds for central bank cash, helping to maintain market interest rates in line with the BoE’s policy rate, according to Reuters.

Source: FXSTREET

Risk-on sentiment seen in global markets on Thursday extends into Friday, as a raft of Chinese stimulus measures continue to lift investors’ confidence. The People's Bank of China (PBOC)  finally lowered the reserve requirement ratio (RRR), the required minimum capital banks must hold in reserve, by 50 basis points (bps), effective from Friday. The Chinese central bank also cut the seven-day repo rate to 1.5% from 1.7%.

Despite the risk-rally in Asian indices and higher US S&P 500 futures, the US Dollar is looking to build on the overnight recovery, fuelled after a brief dip in early opening hours following the dovish remarks from US Federal Reserve (Fed) Governor Lisa Cook.

Cook said that she “wholeheartedly supported 50 bps rate cut,” adding that the “normalization of economy, particularly of inflation, is quite welcome.”

The Greenback suffered on Thursday, as the European and Wall Street stocks advanced on rate-cut momentum while the mixed US Jobless Claims and Durable Goods Orders data failed to inspire USD buyers.

Several Fed policymakers made their scheduled appearances on Thursday, including Fed Chair Jerome Powell. However, only two of them spoke on monetary policy. Fed Governor Cook supported the 50 bps rate cut move in September while Governor Michelle Bowman stuck to her hawkish rhetoric.

Markets are currently pricing in about a 50% chance of a 50 basis points (bps) rate reduction by the Fed in November, according to the CME Group’s Fed WatchTool, down from over 60% seen a day ago.

The next directional move in the USD hinges on the upcoming US core Personal Consumption Expenditures (PCE) Price Index, the Fed’s most preferred inflation gauge, which could affirm bets of an outsized next rate cut. Additionally, the quarter-end flows could come into play and stir markets.

Source: FXSTREET

The United States Bureau of Economic Analysis (BEA) is set to release the significant Personal Consumption Expenditures (PCE) Price Index, which is the Federal Reserve’s preferred measure of inflation, on Friday at 12:30 GMT.

While this PCE inflation data may influence the very-near-term trajectory of the US Dollar (USD), it is highly unlikely to alter the Fed’s course regarding its interest-rate path.

Anticipating the PCE: Insights into the Federal Reserve's key inflation metric

The core PCE Price Index is projected to rise by 0.2% in August compared to the previous month, aligning with July’s figures. Over the last twelve months, the core PCE is expected to increase by 2.7%, slightly up from July’s 2.6% rise.

This core PCE Price Index, which excludes the more volatile food and energy categories, plays a crucial role in shaping market expectations for the Federal Reserve's interest-rate outlook. Both the central bank and market participants closely monitor this measure, as it is not distorted by base effects and provides a clearer view of underlying inflation by excluding unstable components.

As for the headline PCE, consensus forecasts suggest that the downward trend will persist in August, with the monthly PCE expected to rise by 0.1% (down from 0.2% previously) and an annual increase of 2.3% (down from 2.5% previously).

Previewing the PCE inflation report, analysts at TD Securities argued: “Core PCE inflation likely stayed under control in August, with prices advancing at a soft 0.15% m/m pace. Given shelter price strength acted as a key driver of core CPI inflation, the core PCE will not increase as much. Headline PCE inflation likely printed an also soft 0.10% m/m. Separately, we expect personal spending to moderate, rising 0.2% m/m and 0.1% m/m in real terms.”

How will the Personal Consumption Expenditures Price Index affect EUR/USD?

The Greenback navigates the lower end of its multi-month range south of the 101.00 barrier, with initial contention around 100.20 so far.

Following the Fed’s jumbo rate cut at its September 17-18 gathering, investors now see around 50 basis points of easing for the remainder of the year, and between 100 and 125 basis points by the end of 2025.

A surprise at the PCE release should barely influence the Dollar’s price action, as market participants have already shifted their attention to next week’s crucial Nonfarm Payrolls amids the broader Fed’s shift to the labour market in detriment of the progress around inflation.

According to Pablo Piovano, Senior Analyst at FX Street.com, “further upside impulse should motivate EUR/USD to confront its year-to-date peak of 1.1214 (September 25). Once this region is cleared, spot could set sails to the 2023 high of 1.1275 recorded on July 18.”

“On the downside, the September low at 1.1001 (September 11) appears to be reinforced by the provisional 55-day SMA at 1.1009 ahead of the weekly low of 1.0949 (August 15),"  Pablo adds.

Finally, Pablo suggests that “while above the 200-day SMA of 1.0873, the pair’s constructive outlook should remain unchanged.”

Source: FXSTREET