US
Fresh highs in energy prices are weighing on risk sentiment. Brent crude oil prices extended its rally to reach its highest level since May 22, while natural gas prices surged to its strongest since December 2022 after Iran warned it was prepared for a more intense war. Iran has the incentive to escalate and damage Republican prospects ahead of the November 3 midterms. $5/gallon average gasoline prices are unlikely to win many hearts, or votes, at the pump.
Higher energy prices are keeping upward pressure global bond yields and curbing the rally in stocks. Yesterday, the US Treasury raised the liquidity support buyback operation in the 10-year to 20-year sector to $6bn after flagging on August 19 that it would be “at least $4bn” from an original cap of $2bn. That only amplified the rise in long term Treasury yields because markets expected a more meaningful increase between $8bn and $10bn.
As it stands, the Treasury brought a pea shooter to a tank battle given the size of the Treasury market ($31.4 trillion). The next liquidity support buyback operation is in the 20-year to 30-year sector and is scheduled for September 23.
The USD index (DXY) is directionless just above recent lows and holding under its 200-day moving average (99.14). Tomorrow’s US August CPI report remains the main near-term market driver that will decide the Fed’s September 16 rate decision. A hot CPI print would all but seal a September hike and underpin a firmer USD. A cooler reading would strengthen the case for a hold and leave USD vulnerable to a dovish Fed repricing.
The US August PPI (1:30pm London, 8:30am New York) will serve as a warmup act to the pivotal August CPI report. Watch out for PPI Services less Trade, Transportation, and Warehousing as it partially feeds into the policy-relevant PCE calculation. Portfolio management fees could again distort PPI, although the BEA’s September 30 methodology change is poised to fix that.
EUROZONE
EUR/USD is consolidating around its 200-day moving average at 1.1634. The ECB is widely expected to follow June’s 25bps hike with another today, taking the policy rate to 2.50% (1:15pm London, 8:15am New York). ECB President Christine Lagarde speaks 30mins later. Above target Eurozone inflation and a firmer growth outlook give the ECB scope to raise rates.
The ECB will also publish its September macroeconomic projections. We don’t expect material changes to the Eurozone GDP and inflation forecasts. Improving leading economic indicators and slightly softer core inflation are broadly offset by higher energy prices. Brent crude oil and natural gas prices are 8% and 44% higher, respectively, than at the time of the June ECB meeting.
Bottom line: the Eurozone macro backdrop argues in favor of bringing the policy rate closer to the upper end of the ECB’s 1.75%-3.00% neutral range. The swaps curve more than fully price in ECB rates at 3.00% in the next twelve months, which is EUR supportive.
NORWAY
NOK is underperforming. Norway’s mixed August CPI offered little support for an imminent hike, pushing September odds down to 38% from 65%. Headline CPI ran hot at 3.3% y/y vs. 3.0% in July, which was above the 3.2% consensus and 3.0% Norges Bank projection.
Underlying CPI matched consensus at 3.0% y/y vs. 2.7% in July but was cooler than the Norges Bank’s 3.3% projection. Also, the month-on-month decline in underlying CPI was a tick more than anticipated at -0.5% (consensus: -0.4%) vs. +0.8% in July.
Nonetheless, inflation has been running above the Norges Bank 2% target for several years now and argues for one more 25bps hike to 4.50% by year-end. Norway’s attractive carry and energy exposure remain key tailwinds for NOK.
JAPAN
USD/JPY decline has stalled. Hawkish remarks from BOJ member Kazuyuki Masu barely moved Japan rate expectations or JPY. Masu said “to complete the normalization of monetary policy in Japan, I am convinced that the Bank needs to raise the policy interest rate (currently 1.00%) further, so that it falls solidly within the estimated range of the neutral interest rate (1.10% and 2.50%)”
Markets have virtually fully priced in a 25bps BOJ rate hike to 1.25% on September 18 for several days now. In our view, a 50bps move cannot be ruled out given underlying inflation is very close to the 2% target and Japan’s economy is running slightly above capacity.
Overall, the sustainability of the USD/JPY undershoot hinges on next week’s Fed and BOJ rate decisions. We see four scenarios, with the risks skewed towards a stronger JPY:
(i) Fed hold, BOJ +25bps: USD/JPY down
(ii) Fed hold, BOJ +50bps: USD/JPY sharply lower.
(iii) Fed +25bps, BOJ +25bps: USD/JPY rebound.
(iv) Fed +25bps, BOJ +50bps: USD/JPY down.
PERU
Peru’s central bank (BCRP) is widely expected to keep rates unchanged at 4.25% for a 12th consecutive meeting. PEN risk underperforming if the bank remains relaxed about above target inflation as it could keep real rates negative for longer.
TURKEY
Türkiye central bank (CBTR) is widely expected to keep rates on hold at 37.00% for a fifth straight meeting (12:00pm London, 7:00am New York). The disinflationary process has stalled around 30% y/y and argues for continued tight monetary policy.
