Risk-sensitive assets are tumbling and the trade-weighted dollar is pushing toward last month’s peak in the wake of Jerome Powell’s “higher for longer” message on Friday. In an elegantly brief and blunt speech at Jackson Hole, the Federal Reserve Chair said “restoring price stability will likely require maintaining a restrictive policy stance for some time,” warning this would “bring some pain to households and businesses,” while acknowledging that the “historical record cautions strongly against prematurely loosening policy”.
After a summer slumber, bears are reawakening. Equity futures are pointing to another day of selling, the ten-year Treasury yield is nudging 3.1 percent, and raw materials prices are weaker as investors grapple with a Fed that says it plans to raise rates into a slowdown. The yen is flirting with the 1.40 mark and the major commodity-linked currencies are all trading on the defensive.
But longer-term investors remain unconvinced. Powell’s comments were widely seen as rebutting premature talk of a policy “pivot”, yet eurodollar futures still show cuts beginning in mid-2023 – suggesting participants believe the central bank will follow a decades-old pattern, reversing course when the economy slows and labour market conditions worsen. It might walk like a hawk and talk like a hawk, but it’s still a duck.
The euro jumped toward parity after Germany said it would reach its October natural gas storage goals by early September. Benchmark Dutch gas futures plunged more than 20 percent this morning when Minister for Economic Affairs Robert Habeck issued a statement saying that the country would reach 85 percent capacity in its storage facilities a month earlier than planned, reducing the likelihood of an energy crisis this winter.
But euro-area inflation probably edged up in August. Data out on Wednesday is expected to show prices rising 9 percent year-over-year, up from 8.9 percent in the prior month as a historic rise in energy costs lifted headline and core measures alike.
And European natural gas markets remain in a state of tumult. The Nord Stream 1 pipeline is scheduled for three days of maintenance beginning on Wednesday, and energy traders fear Russia intends to reduce flows thereafter – putting more pressure on already-strained supplies. Daily price changes continue to exceed the absolute levels that prevailed prior to this year’s events.
The Chinese yuan fell to a new two-year low, even as authorities appeared to slow-walk the currency’s decline. The central bank set its daily reference rate for the renminbi at a stronger-than-expected level after the dollar exchange rate briefly dropped through 6.73 last night as the greenback powered higher and investors bet on worsening domestic fundamentals. A raft of purchasing manager indices, due on Wednesday, are likely to illustrate lacklustre consumer demand and softening exports as COVID-zero policies, a property slowdown, and shifting Western consumption patterns combine to weaken the economy.
Today’s data cupboard is bare. Tomorrow’s Conference Board consumer confidence number—not typically a market mover—could trigger some volatility if it surprises on the downside. Later that afternoon, a speech from the New York Fed’s typically-dovish John Williams could help soften some of Powell’s words on Friday, but we wouldn’t bet on it.
Friday’s non-farm payrolls number could clear the way for a three-quarter-point rate hike in September. Economists think the US created another 290,000 jobs in August, and the unemployment rate is seen falling to 3.4 percent—the lowest since 1968–as the Fed’s monetary tightening campaign seemingly fails to make a dent in historically-tight labour markets. A miss to the downside might reawaken fears of a slowdown; while a print above the 350,000 mark would lift odds on a jumbo-sized move to near-certain levels.
Karl Schamotta, Chief Market Strategist