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Flashbacks to 2007 haunt markets

Ten-year Treasury yields broke through the 5-percent threshold to a 16-year high earlier this morning, increasing strain on the global financial system and driving renewed demand for the dollar. Major equity indices are sliding ahead of the North American open, oil prices are retreating, copper prices are down sharply, and most major currencies are trading on the defensive relative to the greenback as some investors take out insurance against a re-run of the global financial crisis.

Three factors appear to be shaping the move higher: Last week’s comments from Federal Reserve chair Jerome Powell, in which he appeared to suggest that the central bank could hike rates again after next week’s meeting, a looming early-November funding update from the Treasury department, and an unwind in safe-haven flows prompted by the Israel-Hamas conflict. Amid a concerted diplomatic push, Israeli forces held off on launching a long-awaited ground invasion over the weekend.

There are no clear-cut consequences associated with breaking the 5-percent level. This is not an American action movie in which an explosive device with a helpfully visible timer counts down to zero. But symbolic levels can have important psychological impacts: if businesses and consumers capitulate in the face of a sustained rise in borrowing costs, financial market narratives could pivot on a dime as activity levels in the real economy enter a more aggressive slowdown.

A rise in implied volatility seems probable. The VIX equity market fear index, previously lulled into complacency by the performance of a few major technology stocks, seems likely to reflect a rise in uncertainty in the days ahead. Risk reversals in major currencies with big interest rate exposures and economic sensitivities – particularly the Canadian and Australian dollars – look set to move in opposing directions to those with safe-haven characteristics – like the Japanese yen and Swiss franc.

This comes as Japanese yen traders play chicken with the Ministry of Finance once again. The currency briefly traded through the 150 threshold against the dollar last night, with the selling prompted by a report from the Nikkei newspaper suggesting that the Bank of Japan would consider adjusting its yield curve control framework at its meeting next week. We’re not sure how seriously to take this: there’s little doubt that the yen’s decline is prompting concern at the highest levels of the Japanese government, but inflation is clearly subsiding and the article failed to name the central bankers who might support a policy change at this time. We think direct currency intervention remains more likely than an outright reversal of the Bank’s easy money policies.

There no major economic data releases scheduled for the day ahead, but the tempo will accelerate through the week. The Bank of Canada and European Central Bank will deliver rate decisions, the UK will provide a second tranche of labour market data, and the US will drop its latest growth and inflation prints. With the Federal Reserve under media blackout conditions ahead of next week’s meeting, markets will be left to interpret much of this information on its own merits.

Still Ahead


Taken in conjunction with last week’s release, delayed data from the Office for National Statistics is expected to show labour market conditions easing incrementally in the three months ended August, keeping the Bank of England on hold. The unemployment rate likely held near 3.5 percent, pairing with a previously-reported decline in vacancies and wage pressures to suggest that the recent disconnect between the job market and the rest of the economy is beginning to narrow. (02:00 EDT)

The latest composite purchasing manager index for the euro area will move markets if recent releases are any indication. An improvement relative to September’s 47.2 headline print might help put a floor under growth forecasts for the fourth quarter, giving the currency some much-needed support ahead of what could be a difficult winter, while signs of deeper contraction could see the exchange rate break lower. (04:00 EDT)


The Bank of Canada is widely expected to leave policy settings unchanged, but shifts in the message conveyed within the accompanying statement, Monetary Policy Report, and press conference could trigger a reaction in rates markets. Officials are unlikely to abandon their hawkish bias – inflation rates remain well above the Bank’s target range, labour markets remain strong, and Governor Macklem has already suggested that the economy is not headed for a “serious recession” – but there is little doubt momentum is turning negative. Near-term price forecasts could bump higher on a rise in energy costs, but the longer-term outlook could see downgrades that bring earlier rate cuts into view for market participants. (10:00 EDT)


The European Central Bank will almost certainly stand pat this week as rapidly-evolving economic conditions put policymakers in a difficult bind. War in the Middle East has ratcheted geopolitical risks higher even as it has raised inflation-critical oil prices, and an early-autumn spike in global bond yields has enhanced monetary policy transmission while threatening to upset a delicate balance between sovereign issuers within the euro area. Higher inflation projections could push policymakers into a final hike at the December meeting, but we suspect slowing growth and widening spreads will keep the Bank on hold through mid-2024, keeping rate differentials tilted against the euro. (08:15 EDT)

The US economy may have grown more than 4 percent on an annualised basis in the third quarter on strong consumer spending, rising inventories, and an improvement in net exports. Consensus forecasts are pointing to an above-4.5 percent print, and the Atlanta Fed’s “nowcasting” tool is currently estimating growth at 5.4 percent – a pace which, if realized, would be five times faster than economists had anticipated when the quarter began. Few expect this pace to hold up. (08:30 EDT)

Aircraft purchases will likely boost the headline durable goods print for September, but with transport excluded, orders likely fell from August’s 0.4-percent pace as businesses and consumers turned more cautious. Economists are forecasting an above-2.5 percent jump in overall orders, but expectations are much lower for “core” orders, which are seen rising just 0.3 percent. (08:30 EDT)

Canada’s equivalent to the US non-farm payrolls report should show labour market conditions remaining relatively tight in August, even as signs of softness began to emerge. More recent data showed the unemployment rate rising in conjunction with a solid increase in the number of new jobs in September (08:30 EDT)


The Federal Reserve’s preferred inflation indicator is thought to have accelerated slightly in August, with consumer outlays rising at a strong clip on higher gasoline prices and continued wage growth. Consensus forecasts – and Jerome Powell’s comments last week – suggest the core personal consumption expenditures index rose 0.3 percent month-over-month, speeding up from 0.1 percent in August, and climbing 3.7 percent year-over-year. Based on estimates derived from earlier data releases – including retail sales and the non-farm payrolls report – personal spending likely increased at least 0.5 percent, and incomes might have risen 0.4 percent. (08:30 EDT)

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