30th July - Warsh Breaks The Market
In terms of geopolitics, the renewed fighting I flagged yesterday has intensified and turned deadly. At least 20 people were killed in joint US and Saudi strikes on Iranian-backed forces in Iraq, while Jordan intercepted a fresh barrage of Iranian missiles. So this is no longer a brief flare-up but a genuine second escalation, one that is now drawing in Iraq and Jordan as well. The effect on oil is the important part, as crude has held onto its bid on the back of the fighting rather than continuing to fall. That is a real problem for the disinflation story, because the two forces that had been working in the market's favour last week, falling oil and the hope of a softer Fed, have now both reversed at once. The war premium is rebuilding at the worst possible moment for the rate outlook.
That brings us to the main event, the FOMC decision, which broke the market. The Fed held at 3.50-3.75% for a fifth straight meeting, but it did so on a 9-3 vote, with three officials dissenting in favour of a hike. Warsh, who has said he has "no tolerance" for elevated inflation, offered no forward guidance and no reassurance that the Fed views the oil shock as temporary. The market had wanted a dovish nod to the collapsing oil price, and instead it got a Fed that looks like it may be falling behind on inflation. The bond market said as much, with the 10-year yield jumping 7bp to above 4.67% while the 2-year actually fell 4bp to 4.24%. That flattening is the tell, with the long end selling off on higher inflation risk while a Fed that won't act pre-emptively rallies the short end.
Forex
The reaction in the dollar was the most interesting part of the day, because it did the opposite of what a hawkish Fed would normally produce. Despite the hawkish hold, the dollar actually fell across the board, with the EUR jumping 0.67% to 1.1466 and the GBP rising 0.58% to 1.3365. The reason, I think, comes down to the type of hawkishness on display. A Fed that hikes decisively supports its currency. A Fed that refuses to hike even as three of its own members vote for it, while inflation risk builds and the long end sells off, is a very different thing. That is a central bank that looks like it is losing its grip on inflation, and that is dollar-negative even as yields rise. The 2-year falling while the 10-year jumped captures it perfectly. This was not hawkish tightening, it was hawkish paralysis, and the dollar was sold on it. For me this adds a third leg to the framework we have been using, alongside the safe-haven bid and the rate differential, and that is credibility. The dollar can fall even on rising yields if the market doubts the Fed's grip.
It is worth a quick word on the Australian dollar, which was the one major to have a worse day than the greenback, falling against everything. That move was driven by Tuesday night's soft CPI print, where headline inflation eased to 3.8% and the monthly figure unexpectedly fell 0.1%, largely on cheaper fuel. The market read that as dovish for the RBA and sold the Aussie accordingly, and even a falling dollar was not enough to drag it higher. It has recovered a touch this morning back towards 0.6960, but it remains the weakest of the majors for now.
Indices
The reaction in the indices was brutal. The Dow fell 1,153 points, or 2.19%, to 51,594, which was its worst day since the tariff-driven selloff of April 2025. The S&P 500 dropped 1.52% to 7,316, and the Nasdaq fell 1.74% to 24,442, which now puts it more than 10% off its all-time high and officially in correction territory. This was the confluence I had been warning about, with the escalation, the hawkish Fed and the ongoing AI-capex fears all landing on the same afternoon. Every one of the supports the market had been leaning on gave way at once, and the three-day Dow winning streak that had carried it back towards record territory was wiped out in a single session.
Then the earnings came after the close, and they split exactly along the spender-versus-supplier line I have been drawing for weeks. Microsoft rose 2.4% after hours, with revenue of $90bn beating expectations and its cloud backlog soaring 84% to $678bn, more than twice its annual revenue. It spent heavily, but crucially it showed the return, and the market forgave it. Meta, on the other hand, fell 6.2%. Its revenue of $60.8bn actually rose 28% and beat expectations, and yet it was sold hard anyway, because net income fell 14%, its operating margin collapsed from 43% to 31%, and it raised the low end of its capex guidance once again. That is Alphabet all over again. Beat the top line, raise the capex, and get sold. The pattern is now undeniable across four names. Alphabet and Meta, both spenders, punished. Microsoft, a spender that could show the return, forgiven. Intel, a supplier, rewarded. The market is no longer buying AI spending on faith, it wants the return in the same quarter, and it will punish anyone who can only show the bill. Apple and Amazon report tonight.
Precious Metals
Finally, the metals did what I have been arguing they eventually would, though the reason was a subtle one. Gold rose on the day and has pushed on to around $4,120 this morning, a move of roughly $100 off the lows, while silver climbed 1.23% to $58.09. The important thing to understand is that gold did not rally because the Fed turned dovish, it rallied because the Fed looked like it was losing control of inflation. A central bank that will not hike into a supply shock, with the long end selling off and real-rate expectations at risk, is precisely the environment in which gold works, as it becomes both the inflation hedge and the loss-of-confidence trade at once. The dollar fell, and gold caught the bid that the dollar lost.
This is the catalyst I have been waiting for all year, and it has finally arrived, just not from the direction I expected. However, my discipline has to remain the same. Gold at $4,120 is now genuinely approaching the $4,200 break I have set as my confirmation level, but it has not cleared it yet, and silver is still some way short of a convincing hold above $60. So the setup has improved materially, and for the first time this year the metals have a real catalyst working for them rather than against them, but the levels I have held to all year have not yet broken. I will be watching $4,200 on gold and $60 on silver closely. If this Fed-credibility trade has legs, that is where it will prove itself.
Today's Market Drivers
Iran - Nothing changes; news from Iran will continue to be the main market driver for the day.
FOMC Fallout - As the market continues to digest the FOMC meeting, currencies will move based on investors' sentiment towards assets with the new information now in place.
GBP Interest Rate Decision, 12 pm UK time - Expected to hold, the BoE's vote split and guidance will be key for this news event.
USD GDP & PCE Price Index, 1:30 pm UK time - This will be the first piece of news following the FOMC decision and will be a market mover if we see surprise figures.
JPY Interest Rate Decision, Overnight - As with the BoE, the BoJ is expected to hold, so the guidance will be the news for this one.
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