Happy Friday. We see four key factors driving currency markets this morning:

Safe haven assets are catching a bid as the conflict in the Middle East worsens, threatening to involve other regional powers. With Israel preparing for a ground offensive in Gaza and refugee flows into other counties set to increase, fears of wider disruption – which could lead to tighter sanctions on Iranian crude and ultimately slow flows through the Strait of Hormuz – are growing. Equity futures are pointing to a softer open, the euro and pound are sliding against the yen, Swiss franc, and dollar, and oil-linked units like the Canadian dollar and Norwegian krone are posting small gains.

Yields are reversing modestly lower after staging a multi-phased rally during yesterday’s session. The move began when September’s headline inflation number topped expectations – slightly raising market-implied odds on more monetary tightening – but kicked off in earnest by the early afternoon when a 30-year Treasury auction saw lacklustre demand. With the United States issuing some of the largest volumes of debt in its history even as the Fed lets its holdings roll off, it looks as if price-sensitive buyers – households and investment funds – are baulking at the returns on offer, contributing to a demand and supply imbalance that has seen yields rise in a series of auctions over recent weeks. By some measures, yesterday’s move was the most extreme since March 2020, when global markets were in full-fledged coronavirus-induced freefall.

The Japanese yen is flirting with the 150 threshold once again. With many market participants convinced another official intervention effort is in the offing, traders are likely to go into the weekend with itchy trigger fingers, ready to react to any evidence of “rate checks” or other preliminary steps traditionally taken by the Bank of Japan before yen purchases begin. We’re in a different camp, expecting intervention to come – if at all – closer to the 155 mark, with authorities remaining unwilling to deploy vast resources in an ultimately-doomed effort to fight a fundamentally-driven move.

Dollar positioning is looking stretched. After a sustained period of outperformance in the US economy, paired with an astonishing rise in long-term yields, money managers and retail punters are all-in on the greenback and technical indicators are flashing red. A fading in geopolitical tensions, a softening in underlying growth metrics, or a broader recovery in risk appetite could pose risks in the days ahead, forcing a rotation into defensively-positioned currencies elsewhere. We think traders will become more cautious through today’s session, with rebalancing activity growing stronger into the early part of next week.

 
Still Ahead

TUESDAY

The British labour market is seen losing momentum in the latest jobs report. Private sector wage gains should slow sharply, rising at a 7.9 percent annualised pace in the three months ended in August, down from 8.1 percent previously. The unemployment rate should hold steady, helping ratify bets on the Bank of England maintaining rates at current levels for a prolonged period. (02:00 EDT)

The US consumer likely slowed spending in September, but the headline retail sales print should help boost gross domestic product expectations and force the Federal Reserve into remaining relatively hawkish. Markets think overall receipts rose roughly 0.2 percent in the month, but the ex-auto, ex-gas measure – “control group” sales – might have flatlined on a downturn in sentiment. (08:30 EDT)

Canadian price data could play a crucial role in setting expectations ahead of the Bank of Canada’s next decision. Markets expect a continuing moderation in the underlying price measures followed by the central bank, but – as recent US data has shown – a higher print remains a possibility. We remain convinced the Bank is now on hold for the duration, but markets have retained a modestly-hawkish bias, and could be encouraged to bid up the loonie on a stronger-than-expected number. (08:30 EDT)

A raft of Chinese activity data could trigger a modest reversal in global market sentiment, with stimulus efforts likely to show signs of gaining traction in the world’s second-largest economy. Gross domestic product is seen expanding 4.5 percent in the third quarter, industrial production should post a 4.3 percent year-over-year gain, fixed asset investment might flatline at 3.2 percent year-over-year, and September retail sales could rise to 4.8 percent from the prior month’s 4.6-percent pace. (22:00 EDT)

WEDNESDAY

Markets expect British headline inflation to continue its slide in September, dropping to 6.5 percent year-over-year, down from 6.7 percent in the prior month, shrugging off a significant rise in gasoline prices. Core consumer prices should also ease, but the key services cost aggregate could slip more slowly, exhibiting signs of stubborn price pressures in wage-driven areas of the economy. (02:00 EDT)

FRIDAY

The British high street probably saw renewed losses in September, with consumer demand slowing as borrowing costs ratchet up. Consensus forecasts suggest retail sales contracted -0.2 percent month-over-month, down from August’s surprisingly-robust 0.4-percent gain (02:00 EDT)

Japanese consumer inflation might show signs of exhaustion in September, helping pour more cold water on the prospect of a sharp adjustment in the Bank of Japan’s policy settings. The year-over-year rise in headline prices is expected to drop toward 3 percent after hitting 3.2 percent in the prior month, and the core measure – which in Japan excludes fresh food – could slip to 2.7 percent from 3.1 percent in August. Imported costs – emanating from a global rise in energy prices and a domestically-driven decline in the yen – could remain elevated for months yet, but aren’t likely to justify a wholesale repudiation of the central bank’s easy-money policies.