The dollar is holding near a two-week high, boosted by safe haven demand and a diminishing sense of conviction in a steep rate-cutting cycle from the Federal Reserve.
Oil prices are still grinding higher as investors await an expected Israeli retaliation for Tuesday’s Iranian missile attack, and risk appetite remains suppressed across the financial markets. Both the West Texas Intermediate and Brent crude benchmarks are sitting on circa-1.5-percent gains, North American equity markets are setting up for a weaker open, Treasury yields are climbing, and the dollar is the only major currency sitting on gains for the last day.
Incoming data remains consistent with a US economy that is slowing, but not crashing, potentially reducing the need for emergency-style policy intervention. Dozens of warning signals are flashing red, but nowcasting estimates are showing growth printing at healthy levels in the third quarter, labour market internals are pointing to a post-pandemic normalisation process, and consumer demand isn’t exhibiting signs of exhaustion. Releases this week have broadly topped consensus forecasts, lowering the likelihood of another outsized rate cut at the Fed’s November meeting, and putting upward pressure on the dollar.

The British pound is down almost a full percentage point after Bank of England Governor Bailey said that officials could become a “bit more aggressive” in easing policy if inflation continues to subside. In an interview with the Guardian newspaper, Bailey said he was encouraged by a faster-than-expected moderation in living costs and said the Bank could become “a bit more activist” in the future, suggesting that September’s eight-out-of-nine vote split could shift before the rate-setting committee’s next meeting. The Bank left interest rates unchanged last month and swap markets suggest that overnight borrowing costs will be set close to 4.74 percent three months for now, making the pound the best-yielding major currency over the time-frame that foreign exchange traders often focus on – but odds on a more decisive easing campaign are growing, and favourable rate differentials could prove short-lived. The UK may be an island nation, but it isn’t an island in the global economy.

The Japanese yen is trading on a defensive footing as conditions stabilise after an incredibly turbulent week. With investors convinced that he favoured a more hawkish policy path, the currency surged in value last Thursday when Shigeru Ishiba emerged victorious from the Liberal Democratic Party’s leadership vote, only to reverse direction during yesterday’s session when he turned more cautious. “I do not believe that we are in an environment that would require us to raise interest rates further,” Ishiba said, “I have told the (Bank of Japan) governor that I expect the economy to continue to develop sustainably while maintaining its current easing trend, and that the economy will continue to move towards overcoming deflation”. We’re not sure what to make of this, but it seems more indicative of a new and inexperienced prime minister’s attempt to ingratiate himself with voters than a meaningful attempt to influence the direction of monetary policy. Odds on a rate cut by the central bank’s January meeting are down to 38 percent after reaching more than 100 percent in early August, and we wouldn’t rule out an upward retracement in the near term if other officials sound more hawkish.
Here in Canada, the loonie is backing off yesterday’s levels as the effect of Tuesday’s crude price spike dissipates and attention reverts back to the country’s poor underlying fundamentals. Although consumer sentiment is showing signs of improvement, home prices – arguably the best proxy for conditions in Canada’s real estate-crazed economy – fell for a second month in Toronto in September, and last week’s labour market data showed joblessness continuing to worsen, with private sector employers exhibiting clear signs of retrenchment. With traders clinging to bets on a 50 basis-point cut at the Bank of Canada’s October meeting, rate differentials have widened slightly against the currency, and downside vulnerabilities are growing ahead of the US election in November.
