Ten-year Treasury yields are holding near the highest levels since 2007, and the dollar is close to a nine-month peak Defensive buying ahead of the looming US government shutdown may be playing a role, but the Swiss franc, Japanese yen, and gold – traditional safe haven instruments – are showing limited signs of demand.

Instead, we think hawkish interpretations of last week’s dot plot and press conference remain in play – which marks a contrast with the earlier part of the year, when markets repeatedly faded Jerome Powell’s “higher for longer” message. A number of factors may have led to this change in investor psychology: By threatening to lift inflation expectations, rising oil prices might be keeping US yields elevated. An excess of issuance could be overwhelming institutional demand. But underlying economic momentum – which has remained surprisingly resilient in the face of the Federal Reserve’s tightening campaign – seems to be the most important driver, with expected growth differentials reinforcing “dollar smile” dynamics across bond and currency markets. Until US data worsens, the dollar’s bull run looks well-nigh unstoppable.

Powerful momentum-driven forces are carrying both the pound and euro toward key support levels, with month- and quarter-end rebalancing activity bringing bigger downside moves into the realm of possibility over the coming days. After the Bank of England halted a 14-decision tightening cycle last week and signalled a desire to stay on hold, sterling is on course for its worst month since wilting almost as fast as a lettuce during last year’s Truss debacle, putting the 1.20 threshold against the dollar within reach. The euro’s losses have been less extreme, but softer zone-wide inflation data on Friday could see the 1.05 mark come under pressure.

The yuan is attempting to recover after one of China Evergrande’s operating units failed to repay a maturing bond, threatening to derail a broader restructuring plan and crush investor sentiment across the country’s all-important real estate sector. The currency remains caught between worsening onshore fundamentals and the government’s defensive efforts, which have seen state-owned banks and the central bank working together to drain offshore liquidity and make short positions more expensive – but which haven’t borne evidence of a truly decisive attempt at intervention. We suspect authorities comfortable with allowing some export-stabilizing yuan depreciation, particularly given currency developments on the other side of the East China Sea.

Japan’s finance minister moved closer to signalling imminent intervention, saying he was watching market trends with a “high sense of urgency”, warning that authorities would take “appropriate action against excessive movements in currency markets, without ruling out any options”. The yen is incrementally higher.

We note that there is very little evidence of speculative excess in the yen. Exchange-traded short positions look relatively minor, implied option probabilities aren’t massively asymmetric, trading ranges are narrow, and the underlying trend seems well-supported by fundamental rate differentials – differentials that would remain wide even if the Bank of Japan were to allow yields to move in an unconstrained manner. This backdrop could make intervention harder: if the Bank of Japan has lost the element of surprise and can’t trigger a panicked short-covering rally (even in thin after-hours trading conditions), the absolute scale of yen buying will have to be much larger relative to last year’s efforts if it has any chance of reversing the currency’s decline.

Ahead today, the Conference Board is expected to say consumer confidence worsened in early September. Slowing employment gains, higher gasoline prices, and upcoming student loan repayment deadlines are seen bringing the headline index down to 105.5 from 106.1 in the prior month. We’re not sure markets will notice: political polarization and massive behaviour differences – gaps between what consumers say they will do and what they actually do – have diminished the predictive power of sentiment indices in recent years.

Still Ahead

WEDNESDAY

The European Central Bank’s latest lending survey should show another sharp fall in the volume of credit flowing into households and businesses, suggesting that a demand shock on par with the 2011 euro crisis might hit growth over the coming months. We think this will bring peak rate expectations inexorably down toward current policy levels and start a process in which markets begin to anticipate rate cuts by mid-2024.

US durable goods orders – an important variable in the overall business cycle – should fall by less in August relative to the prior month, with ex. transportation spending remaining strong and underlying business investment levels staging a recovery on an improved earnings outlook for many of America’s bellwether consumer brands. (08:30 EDT)

THURSDAY

The Canadian payrolls numbers (less timely than the Labour Force Survey) should illustrate a softening in job vacancy numbers and underlying labour demand in July, but won’t shed much light on current conditions. Upside surprises are unlikely to impact markets – most participants are convinced the economy is losing momentum – while a downside shock could reinforce already-bearish positioning. (08:30 EDT)

Mexico’s central bank is seen holding rates again, and indicating that it will continue to do so for a while yet. Inflation has slowed, but remains far above the policy target, domestic demand is going strong, and the government is opening the spending taps ahead of next year’s presidential election. The peso’s strongly-positive carry profile should remain intact for now. (15:00 EDT)

FRIDAY

Underlying euro-area inflation pressures should continue cooling in September. Consensus estimates suggest that headline prices rose 4.5 percent year-over-year in the month, down from 5.2 percent in the prior month, with the core measure slipping to 4.8 percent from 5.3, but the data could surprise to the downside as base effects, statistical adjustment issues, and a drop in services demand contrive to put downward pressure on price calculations. (05:00 EDT)

The Federal Reserve’s preferred inflation indicator is expected to climb at an annualized pace consistent with the central bank’s target in August. The core personal consumption expenditures index is seen pushing just 0.2 percent higher, with personal income rising 0.4 percent, and spending growth slowing from the previous month’s 0.8 percent to 0.4 percent. We expect the first negative spending prints to come within months as excess savings are wound down, student loan repayments ramp up, and employment conditions cool – but the US consumer has repeatedly proven us (and markets) wrong this year, so we can’t rule anything out. (08:30 EDT)

Canadian growth data for July are likely to align closely with Statistics Canada’s initial estimate, with the expansion flatlining as consumer spending weakens and business investment hits a wall. But a number of transitory effects – including strikes and forest fires – could plague the data, obscuring any meaningful signal. Markets will focus more closely on the advance estimate for August. (08:30 EDT)