29th July - Escalation Returns Before The Fed
The calm did not last. After three days without strikes had convinced the market a genuine de-escalation was underway, the fighting resumed. Iran mounted what has been described as a surprise attack, and the US responded with renewed strikes, with further action taken in Iraq by both the US and the Saudis to risk a further escalation in the region. The pause that markets had been hoping was the beginning of the end, has instead proven to be just another lull in a conflict that has repeatedly refused to resolve. The question now, as it has been after every previous flare-up, is whether this is a brief resumption before talks continue, or the start of another sustained escalation like the one we saw earlier in the month.
The effect on oil is the key thing to watch, and it explains a lot about how the rest of the market has behaved. Having fallen from over $100 last week all the way down towards $85 on the back of the strike pause, the renewed fighting has put a floor back under crude and halted the collapse. This matters enormously, because the entire disinflation story that markets have been leaning on depends on oil continuing to fall. If this escalation holds and oil starts climbing again, then the soft inflation narrative that has been building over the past week is immediately called into question, and it does so at the worst possible moment, on the very day of the FOMC decision. It is worth remembering that the war premium had almost completely drained away, so there is plenty of room for oil to move higher again if the market decides this escalation is serious.
Forex
The dollar has spent this week refusing to weaken in the way the falling oil price would suggest, and I have put that down to positioning ahead of today's FOMC. That explanation looks even more sensible now, with the renewed fighting giving the dollar back a little of the safe-haven bid it had been losing. The result is that the dollar heads into the Fed decision firmer than the fundamentals alone would justify, propped up by both the rate-differential leg and a returning safe-haven leg. As I have said all week, the real test comes this afternoon. If Warsh acknowledges the easing inflation picture, the dollar finally has a reason to turn lower. If he holds his hawkish line, particularly now that oil has stopped falling, then the dollar has every reason to push higher again.
The overnight standout among the other majors was the Australian dollar, which fell 0.43% to 0.6943 following a soft CPI print. Headline inflation eased to 3.8% from 4.0%, with the monthly figure unexpectedly falling 0.1%, driven largely by cheaper fuel, and the market read this as dovish for the RBA. There is a certain irony in that, given it is the same oil-collapse story feeding into everything else, and the trimmed mean actually held steady at 3.6%, so the underlying picture is stickier than the headline suggests. Elsewhere the moves were muted ahead of the Fed, with the EUR firming slightly to 1.1386 and the GBP flat at 1.3288, while the USD/JPY continued to grind towards 164 ahead of the BoJ decision on Friday.
Indices
Yesterday was another strong session for the wider market, even as the tech names continued to struggle. The Dow rose 1.03% to 52,747, extending its winning streak to three days, and the S&P 500 added 0.21% to 7,428, but the Nasdaq slipped 0.22% to 24,876 as a chip sell-off weighed on the index once again. That split, with value pushing higher while the tech-heavy Nasdaq lags, has been the defining feature of the market for weeks now and it shows no sign of changing.
The headline was Apple, which briefly became the first company ever to reach a $5 trillion market cap, a day after overtaking Nvidia to become the most valuable company in the world. I think that reordering tells you everything about where the market's head is at right now. On a day the Nasdaq fell on a chip sell-off, the market crowned the mega-cap it sees as least exposed to the AI spending question, while the chip names at the centre of it were sold. That is the spender-versus-supplier dynamic playing out at the very top of the market. The real test, though, comes after the close today, when Microsoft and Meta report, followed by Apple and Amazon tomorrow. With hyperscaler capex projected to reach almost $700 billion this year, some $300 billion more than last year, the market will be watching the AI spending numbers above all else. After Alphabet was punished with a 7% fall for raising its guidance, the question is whether these names get the same treatment or whether their results finally justify the spending.
Precious Metals
The metals fell again yesterday, with gold dropping 1.08% to $4,038 and silver falling 2.07% to $57.53, both continuing the slide that has run for the last week or so. They have steadied a little this morning, with gold around $4,040 and silver near $58.10, but the pattern is unmistakable. Oil has collapsed all week, which in theory should have been the catalyst to lift the metals, and instead they have been unable to capitalise. It is the clearest possible demonstration of the point I have been making, that the metals do not simply need cheaper oil, they need the rate picture itself to turn.
That is why today matters so much for gold and silver. Everything now rests on Warsh. A dovish acknowledgement of the easing inflation backdrop is the catalyst the metals have been waiting for all year, and it would finally give them a reason to move higher. A hawkish hold, on the other hand, keeps the lid firmly on, and with oil no longer falling thanks to the renewed fighting, even the disinflationary argument has lost some of its force. My position remains the same as it has been for weeks. I am not chasing this until we see a clean break of $4,200 on gold and a hold above $60 on silver, and nothing this week has come close to changing that. But today's decision could well be the moment that finally decides the direction of the next big move.
Today's Market Drivers
Iran - Once again, with the escalations returning, any news from Iran will be market-moving in one way or the other.
FOMC Rate Announcement, 7 pm UK time - The big news of the day, the rate itself is likely to remain the same, so the real news will be the commentary around it. Look for hawkish or dovish language to move the market.
Microsoft & Meta Earnings, after market close - This is another big news event for the tech and AI space; the focus will be on the companies' capex figures and how the stock prices react to any increased capex projections.
Comments