Daily Market Comment – Fed hawks lift yields out of the doldrums, yen pauses for breath



  • US yields jump after Fed pours cold water on notion that rate hikes are nearing end
  • Yen rally eases, stocks mixed as Taiwan escalation seen limited after Pelosi visit
  • Oil prices drift lower ahead of OPEC+ output decision

Fed bets back on after hawkish talk

Bond markets were reeling and interest rate futures were being recalibrated after Federal Reserve officials questioned the recent scaling back of rate hike expectations by investors. Following the July FOMC meeting where Powell was perceived as less hawkish and some worrying signs in closely watched PMI surveys, markets had started to price in a rate cut as early as the second quarter of 2023.

But the message from the Fed on Tuesday was that investors had gotten a bit ahead of themselves in betting that the rate hike cycle doesn’t have long to go. San Francisco Fed President Mary Daly told CNBC that the Fed was “nowhere near almost done” in its fight against soaring inflation and that there’s still “a long way to go”. Speaking to the Washington Post, the head of the Cleveland Fed, Loretta Mester, set a high bar, saying she wants to see “really compelling” evidence that inflation is coming down, while the Chicago Fed’s Charles Evans signalled that a 50 or 75 basis-point hike was likely in September.

Fed fund futures for spring 2023 jumped higher after the comments, but only by about 20 basis points, while for the remaining meetings of 2022, they only edged up marginally, suggesting that markets are still gripped by recession fears and think the Fed will balk whether it wants to or not.

The reaction in bond markets was a little more dramatic, however, with the 10-year Treasury yield surging from a low of 2.5160% to a high of 2.7740% as those comments came in. US yields were trading near their highs today, with parts of the curve now looking firmly inverted, while European yields were extending their gains.

An upward revision to the euro area's final PMI readings for July is also likely contributing to today’s recovery in bond yields, putting even more focus on the ISM non-manufacturing PMI due in the US session later today (14:00 GMT).

Resurgent dollar pressures yen but gold fights back

The Fed’s renewed hawkish language bolstered the US dollar, which had already begun to snap a four-day losing streak on Tuesday from heightened geopolitical risks. Increased friction between Washington and Beijing over House Speaker Nancy Pelosi’s visit to Taiwan had revived the greenback, while adding more fuel to the yen’s two-week rally.

But the Japanese currency is once again on the backfoot on Wednesday as the stronger dollar, widening yield spreads with the rest of the world and receding fears of an imminent retaliation by China against the United States are stifling its safe-haven appeal.

The greenback has rebounded back above the 133-yen level, with gold also coming under pressure. The precious metal had managed to climb as high as $1,787/ounce on Tuesday until the dollar made a comeback, though it’s holding steady today around $1,765/ounce.

Geopolitical unrest

It’s unlikely we’ve heard the last from China over its anger at Pelosi’s trip to Taiwan, which undermines the official US line that the island is not a sovereign state. For now, Beijing is sending military planes into Taiwan’s airspace and plans to conduct live-fire drills around its coast – something that has the potential to disrupt supply routes along the Taiwan Strait.

But even if there is no further escalation, efforts to improve relations between the two superpowers have at the very least suffered a significant setback, and it is also looking less likely that the White House will push for some easing of import tariffs on Chinese products after this.

OPEC decision eyed as earnings take a backseat

The mood in equity markets also brightened slightly on Wednesday. European shares got off to a mixed start and US stock futures were marginally higher following losses for all of Wall Street’s major indices on Tuesday.

It will be somewhat of a quieter day on the earnings front, but investors will nevertheless be busy keeping an eye on US factory orders and the ISM PMI for any fresh warning signs of a recession, as well as on the OPEC+ meeting.

Saudi Arabia is reportedly pushing for oil production to be raised following intense pressure by the Biden administration. But it’s unclear if other OPEC and non-OPEC members, which includes Russia, will be on board with this.

As far as the outlook for oil is concerned, unless there is a substantial boost to output, any immediate drop in prices from a symbolic increase might prove to be short lived, even with the demand picture remaining murky.

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