15th September - 10-Year Breaches 5% As Oil Rises Again
As we head into the FOMC announcement tomorrow, there were two main stories yesterday of note that will likely have an effect on the decision tomorrow.
First of all, we saw long-term US yields continue to rise despite the efforts of the US Treasury. The 10y yield rose significantly last week, and yesterday passed 5% for the first time since October 2023, when it touched this level intra-day. The yields have passed 5% again this morning; the last time we had a close above this level was all the way back in 2007, just shy of 20 years ago. The 30y yields are also still elevated and sit at 5.38% this morning, so Treasury Secretary Bessent's attempts to reduce these long-term yields seem to have failed spectacularly over the first few days of the project. Whether more money will be pumped in to reduce these yields remains to be seen, but it
would need to be a monumental investment to change the market's current momentum.
Secondly, we see oil continue to stay elevated, with Brent sitting at $108.80 and US Oil at $99.50. We saw continued strikes from both sides, and also saw a drone strike that caused Saudi Arabia to shut down its East-West pipeline temporarily, restricting global supply even further as we have one less route out of the area. On top of this, the expected Iran-Oman agreement was not signed in Muscat, which came as a direct result of the pipeline attack. The only encouraging sign for the market has been delayed due to further escalations.
Both of these are factoring into the FOMC's decision tomorrow, but potentially in different directions. Higher oil prices invariably lead to higher inflation, which leads to the Fed needing to raise interest rates to combat this. This relationship is fairly straightforward and easy to follow. The relationship with bond yields is a little more complicated, as things always are with bonds. Normally, if the Fed saw higher bond yields, it may give it an incentive to hold rather than raise rates, as bond yields will do some of the work for the Fed in slowing down the rate of inflation.
However, if the Fed sees the higher yields as a consequence of expected higher inflation and thus higher rates, not hiking would cause yields to fall back and then not do the work of tightening financial conditions that the Fed expected it would. As a result, the Fed will need to decide whether yields are up because of expected inflation or because of other factors that have already happened. It is a delicate and difficult balance, which means it will be fascinating to see how yields react to the decision tomorrow. As of this morning, markets are predicting a 92.5% chance of a rate hike, so this is close to already priced in, so the real market mover will then be the guidance surrounding the decision.
Forex
The USD was a big winner yesterday, as it gained ground in anticipation of tomorrow's FOMC meeting. The DXY moved through the 99s to sit at 99.622 this morning, in what is now a relatively strong recovery from the lows before the PPI print last week. We had been talking about how the USD was not reacting as we would expect to good news last week, but it seems that the response may have just been slightly delayed as the markets decided whether to trust the USD. It may now be the case that the rate hike has been fully priced in, which means that if we receive dovish guidance from the Fed tomorrow, the USD could suffer again. I still see some lack of confidence in the USD overall, so I feel that this short-term rally in the USD could just be temporary. The key factor that will decide this is whether the Fed signals further rate hikes this year, so the guidance to go along with the decision will be crucial.
The USD/JPY continued to recover from its lows around 153.000, with this level now proving to be a strong area of support for the pair. With the US rate hike now expected, this will nullify the rate hike from the BoJ, meaning the carry trade may still have some short-term viability. Once again, the forward guidance from the Fed will be crucial. If we hear there are no plans for future hikes, then the market may consider the carry trade to have run its course and the 153.000 level broken in short order.
With all of the focus this week on the USD, the other currencies were relatively flat yesterday. The GBP is bracing itself for tomorrow's UK inflation print and then Thursday's BoE rate decision, while other currencies are waiting for the US rates announcement or a catalyst of their own.
Indices
Indices struggled yesterday, particularly those that are tech-heavy, after comments made by a number of key AI company CEOs. The NAS100 was down 0.7% yesterday, having been down 1.3% at one point, while the S&P was down 0.33% and the Dow Jones down just 0.1%. They are continuing to struggle today, with all three already down between 0.6% and 0.75%.
The biggest contributors to the fall yesterday were the semiconductor stocks, as talk of slowing down AI development caused an expected loss of demand for chips and so impacted companies such as Nvidia. However, it is worth noting that some of the mega-tech stocks actually rose, such as Salesforce and Alphabet. The implication here (that makes sense logically) is that a slowdown in AI development hurts chip manufacturers, but that the end users are less exposed to this.
This dichotomy will remain something to monitor over the next few months as the discussion around AI continues at the highest levels.
Precious Metals
Both metals fell again yesterday, but once again not as much as may have been expected. We are now almost certain of a rate hike tomorrow, but metals have held relatively strong considering the circumstances. Gold fell 0.9% yesterday to close at $4,300 but recovered from being down 1.98% at one point, while we saw silver do something similar to end up down 1.26% to close at $63.25. Both are starting lower again today, as markets continue to prepare for tomorrow's Fed meeting.
There is every chance, however, that even if we do see the expected rate hike tomorrow, metals could rally on dovish forward guidance. Markets are clearly unsteady surrounding the US economy as they have not sold off metals in the way we would expect, so if metals are given any encouragement tomorrow, I could easily see a rally on a rate hike, something very few would have expected earlier in the year.
Today's Key Market Drivers
GBP Claimant Count - A useful unemployment figure to gauge the UK economy, but this is likely to have less of an impact than normal as markets will instead be looking to tomorrow's CPI print and the BoE's rate decision.
Oil & Bond Yields - Without any other major data releases, markets will be watching oil and bonds for further clues in anticipation of tomorrow's Fed decision.
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