Written by Convera’s Market Insights team
Has the Fed lost control over the 10-year yield?
Boris Kovacevic – Global Macro Strategist
Federal Reserve chair Jerome Powell took the stage at the Economic Club of New York on Thursday amid rising geopolitical tensions, interest rates at 17-year highs and a still remarkably tight US labour market. While acknowledging the current uncertainty in the Middle East, Powell supported the markets expectation that the Fed would not have to raise interest rates at the next meetings.
Although the economic momentum has been stronger than most economists would have expected going into the third and now fourth quarter of this year, inflation is slowly coming down and the recent tightening of financial conditions via the increase in short- and long-term government bond yields has supported the Fed’s goal of bringing inflation back to target. The main objective of this week’s plethora of Fed speeches has been to solidify the high for longer narrative as policy makers shifted the attention away from the next two meetings. With the probability of the Fed hiking in November and December falling to around 30%, the yield curve continued to steepen further. While the 2-year yield reacted negatively to Powell’s comments, the 10-year yield surged for a fourth straight day, almost touching the 5% mark. The US dollar will most likely fall against its peers this week. Even though most recent developments have moved in favour of the Greenback, strong positioning going into the week might have been a cause for the dollars weak bid during the last few trading sessions.
The macro data out of the US continued to show two prevailing trends of the past few months. Namely, an incredibly tight labour market and a weakening housing market. Weekly initial jobless claims fell to a nine-month low at 198k and are currently in the bottom 2% of their 3-year range. At the same time, existing home sales fell to the lowest since October 2010 as only 3.96 million units were sold in September on an annualized basis. With 30-year mortgage rates pushing beyond 8%, households are reluctant to sell their home and apply for a new mortgage at much higher levels than their previous ones.
Euro set to record best week since July
Ruta Prieskienyte – FX Strategist
A distinct lack of European centric data this week has left the euro with few local drivers to sustain a confident upward momentum and a continually brewing Israeli-Hamas conflict threatened to pull EUR/USD below the $1.05 handle. Despite this, the pair showed resilience in the face of rising US yields and managed to extend its recent progress, closing on Thursday with a 0.6% gain on the week.
Despite some upbeat data from China providing support, a possible overhang for the euro was made evident this week after the Italian government approved the 2024 fiscal budget with around 24 million euros ($25.3 billion) – approximately 1.2% of GDP – in tax cuts and increased spending. To make the matters worse, Italy’s budget deficit for the month of September was the worst on record. The proposed package not only worsens the public finances but lacks the ambition to reduce its debt burden, raising uncertainty at a time when borrowing costs are climbing. Markets sent a clear signal of concerns with the spread between BTP and Bunds moving past 200bps, although not yet surging to alarming levels. With credit-rating reviews due over the upcoming weeks, investors continued to keep a close eye on Italy. Despite risk premia increasing and the fall of the 2-year swap differential between the Eurozone and US falling to the lowest level this year, the euro held steady.
Looking ahead, the ECB meets next week and, after ten consecutive hikes, is largely expected to keep rates unchanged. Risks are tilted towards higher rate pricing if Lagarde warns of inflation risks due to recent energy price volatility, which could send EUR/USD back under $1.05. However, a euro recovery in 2024 remains our base case for now.
GBP/EUR at 5-month low after retail sales miss
George Vessey – Lead FX Strategist
The pound is weaker across the board this morning after data showed consumer confidence dropped to a 3-month low and retail sales in September came in much worse than expected. GBP/USD has dipped under $1.21, whilst GBP/EUR is sliding further south of €1.15 – hitting a fresh 5-month low.
Geopolitical headwinds and surging bond yields have kept risk appetite at bay this week, hurting the risk sensitive pound which has a high positive correlation with the S&P 500 index. However, the pound has also been sensitive to domestic data, which has revealed easing wage growth and inflation pressures. But with the lagged effect of higher mortgage rates, energy prices on the rise and tensions in the Middle East flaring, the renewed drop in consumers’ confidence suggests households remain on shaky ground. The big retail sales miss is further evidence of this deteriorating morale. Retail sales volumes fell by 0.9% in September, following a rise of 0.4% in August and much worse than market forecasts of a 0.2% fall. Sales at non-food stores fell by 1.9%, due to the continuing cost of living pressures, alongside the unseasonably warm weather reducing sales of autumn-wear clothing.
Meanwhile, Labour overturned big Conservative majorities to win two seats in a double byelection, boosting party hopes for success in next year’s expected elections. Although it’s a long way off, a change in government could weigh heavily on the pound and curtail any attempted recovery in 2024.
USD/CHF slips 2% in a week
Table: 7-day currency trends and trading ranges
Key global risk events
Calendar: October 16-20
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*The FX rates published are provided by Convera’s Market Insights team for research purposes only. The rates have a unique source and may not align to any live exchange rates quoted on other sites. They are not an indication of actual buy/sell rates, or a financial offer.
