Several key developments last week significantly influenced the investment landscape. Here’s a breakdown of the most impactful events:
1. US Employment Data Surprises to the Upside
The September US employment report exceeded expectations, reinforcing the message from Fed Chair Powell. After starting the easing cycle with a 50-basis-point rate cut, the Federal Reserve seems content to proceed cautiously. Markets now anticipate two quarter-point cuts in Q4, aligning their expectations more closely with the Fed’s outlook. This suggests the central bank will maintain a patient approach, focusing on gradual adjustments rather than aggressive moves.
2. Japan Delays Rate Hikes
The new Japanese government and the Bank of Japan (BOJ) are showing hesitancy regarding near-term rate hikes. Markets have now pushed expectations for the BOJ’s next move out to 2025. This cautious stance reflects concerns over Japan’s economic recovery and inflation targets, dampening near-term prospects for yen strength.
3. Eurozone CPI Drops Below 2%
Eurozone inflation, as measured by the preliminary September CPI, fell below 2%, fueling speculation that the European Central Bank (ECB) could cut rates at its October 17 meeting. This softer inflation reading increases the likelihood of a dovish shift, as the ECB may look to support growth amid falling price pressures.
4. Bank of England Leans Toward Accelerated Cuts
Bank of England (BOE) Governor Andrew Bailey hinted at a quicker pace of rate cuts. This weighed on the pound, although the market still holds a 60% probability that the BOE will cut rates by 50 basis points in Q4. Sterling’s outlook remains sensitive to BOE policy, but traders seem mostly settled on a dovish trajectory.
5. Chinese Equities Surge Despite Holidays
Despite mainland Chinese markets being closed for a holiday starting October 1, stocks of Chinese companies trading abroad saw a strong rally. The Hong Kong index jumped 8.6%, while the Golden Dragon Index, which tracks Chinese companies listed in the US, surged by 10.5%, building on a 24% rise from the previous week. These moves suggest optimism about China’s economic trajectory, driven by hopes for further government support once the markets reopen.
6. Escalation in the Middle East and Oil Prices
Geopolitical tensions are intensifying with Israel’s invasion of Lebanon and Iran’s missile strikes on Israel, raising concerns about a broader regional conflict. Amid these developments, US oil inventories have hit their lowest levels in 2.5 years. As a result, the price of November WTI crude traded above $75 per barrel for the first time since late August. Rising oil prices could add inflationary pressures, potentially complicating the Fed’s easing plans.
Looking Ahead:
- US September CPI (October 10)
The upcoming CPI release is a critical data point. A modest 0.1% rise in September would lower the year-over-year inflation rate to 2.3%, down from 2.5%. This could ease some inflation concerns and support the case for further Fed rate cuts. The core CPI, however, remains stickier, but it’s not expected to deter the Fed’s easing trajectory. - China’s Market Reopening (October 10)
With China’s markets reopening after a week-long holiday, speculation is rife that Beijing may introduce additional stimulus measures. Investors will be watching closely for any signals that could further boost Chinese equities. - Reserve Bank of New Zealand Meeting (October 9)
The RBNZ is widely expected to cut rates by 50 basis points, with market odds around 75%. This dovish shift follows the global trend of easing monetary policy to support growth amid slowing global demand. - UK August GDP (October 11)
The UK’s August GDP report may show the first monthly expansion in three months, potentially signaling a modest recovery. However, this data will also factor into the BOE’s decision-making on rate cuts. - Canada’s September Labor Market Update (End of Week)
Canada’s labor market is expected to add around 36,000 jobs in September, slightly above the year-to-date average. This stronger job growth could influence the Bank of Canada’s monetary policy stance moving forward.
United States
The stronger-than-expected September job growth and the dip in the unemployment rate have tempered market speculation of a 50-basis-point rate cut by the Federal Reserve this year. With one more jobs report before the next FOMC meeting in November, focus now shifts to upcoming inflation data, particularly the CPI report on October 10.
Inflation Outlook:
- Headline CPI: Expected to rise by about 0.1% in September, primarily driven by base effects. This would lower the year-over-year inflation rate to 2.1% from 2.5%. On a three-month annualized basis, the headline inflation rate likely increased by 2% in Q3.
- Core CPI: More persistent, the core inflation rate may see a modest rise of 0.2%, bringing the year-over-year rate down slightly to 3.1% from 3.2%. Over the past three months, the core CPI is estimated to have grown by 2.8% annualized.
This data will be key to understanding the Fed’s next move, with particular attention on the core inflation rate. While sticky, it might not be enough to deter the Fed from further easing if other metrics align.
The Producer Price Index (PPI) report, which comes the day after CPI, generally garners less market reaction. Even Fed Chair Powell and Governor Waller have focused more on CPI when discussing their reasoning for the recent 50 bp rate cut, signaling that PPI is unlikely to change their policy outlook significantly.
Trade and Inventory Data:
In addition to inflation, August trade and inventory data will be reported. Preliminary data already show improvement in the US goods trade balance, suggesting the deficit narrowed, although it does not necessarily reflect weakness in exports. US exports remain strong, trailing only China, with a value around $2 trillion. A slight decline in overall goods imports may indicate that businesses are securing supplies in anticipation of potential disruptions, such as the dockworkers strike. These figures will help refine forecasts for Q3 GDP, which is currently tracking around 3% growth.
FOMC Minutes:
The FOMC minutes from the decision to cut rates by 50 bp will be released, potentially offering more clarity on the Fed’s internal debates. Critics have suggested that the Fed may have panicked and cut rates too aggressively, but Powell and Waller’s focus on the CPI indicates that the inflation data, rather than market pressure, likely drove the larger cut. The minutes could shed light on how the Fed weighed a 25 bp versus a 50 bp cut.
Dollar Strength:
The US Dollar Index posted its strongest weekly gain in two years, rallying 2.2% and breaking a four-week losing streak. It climbed every day last week, pushing close to 102.70 before the weekend, as markets recalibrated expectations of future Fed rate cuts. A base now appears to be forming, suggesting a potential move toward the 104.00 level in the near term. However, some consolidation could occur at the start of this week, with support expected around the 102.20 area.
In summary, while the job market remains robust, attention now pivots to inflation data and upcoming Fed communication. The CPI report will be crucial in determining whether the Fed sticks to a gradual easing path, while the strength in the dollar reflects renewed confidence in the US economy. Geopolitical risks and supply chain issues, as highlighted by trade data, will also continue to play into market dynamics heading into Q4.
Eurozone
Last week’s CPI data reinforced growing speculation that the European Central Bank (ECB) could deliver another rate cut later this month, following the reduction in September. This dovish momentum has been driven by persistent softness in the eurozone’s economic indicators and subdued inflation pressures. While upcoming data, including August retail sales, will be watched, they are not expected to sway the market significantly. Eurozone retail sales have been flat on average through the first seven months of the year, mirroring the sluggish consumer demand seen during the same period in 2023.
German Economy Showing Signs of Weakness:
The German economy remains a key concern, especially after the Bundesbank warned of a possible contraction in Q3, following a slight decline of -0.1% in Q2. This has tempered expectations for the upcoming German factory orders and industrial output reports, which are likely to confirm continued economic softness. Even if the data come in below expectations, the market impact may be muted as Germany’s struggles have been widely anticipated.
On a slightly more positive note, France, Spain, and Italy reported small increases in August industrial production, which offer some relief for the broader eurozone economy. Additionally, the shock from Russia’s invasion of Ukraine has largely been absorbed in terms of trade impact. German and French trade figures suggest stabilization, and the eurozone’s current account surplus is projected to rebound to 2.5% of GDP this year, after falling to -0.3% in 2022, bringing it back in line with the 2.4% surplus seen in 2019.
Euro Faces Pressure:
The stronger-than-expected US jobs data last week pushed the euro below the $1.10 level, breaking through what some traders view as the neckline of a potential double top pattern. This technical formation could project the euro’s downside target toward $1.08, a deeper retracement that suggests continued weakness in the short term. However, an initial target range of $1.0900-$1.0910 seems more realistic for now, with a pause likely as the euro may need to consolidate after six consecutive days of losses.
The $1.10 level, now broken, could serve as resistance if the euro attempts a rebound, making it a key point to watch in the coming sessions. Further strength in the US dollar, particularly if the upcoming US CPI report points to persistent inflationary pressures, could maintain downside pressure on the euro, keeping the currency vulnerable to further declines.
In summary, the ECB’s potential for additional rate cuts, weak German data, and the euro’s technical setup point to continued pressure on the euro. While the currency could consolidate around current levels, further downside to $1.08 is on the table if macro data from the US and eurozone support the trend.
United Kingdom
The Bank of England’s (BoE) patience will be tested this week as the August GDP figures are set to be released. After stagnating in both June and July, the economy’s weak growth momentum remains a concern. Since the end of Q1, monthly GDP has only increased in one month (May), and the trend across key sectors doesn’t inspire much confidence:
- Industrial production was flat in Q2 but fell by 0.8% in July, with manufacturing output contracting by 1%.
- Construction, after a 1.2% rise in Q2, declined by 0.4% in July.
- The services sector has shown more resilience, growing at a modest 0.1% per month on average, but not enough to counteract declines in other sectors.
- Net exports have also weighed on the economy, adding to the drag.
While the monthly GDP report offers an important snapshot, it is not expected to have the same market impact as the upcoming employment data (October 15) or the CPI report (October 16). The key question now isn’t whether the BoE will cut rates in November—that appears to be a foregone conclusion—but whether another cut will follow in December.
UK’s Rate Advantage and Yield Dynamics:
The UK remains the high yielder among G7 economies, and this interest rate advantage has been a key driver of sterling’s performance. The UK’s two-year yield recently reached a 40-basis-point premium over the US, the largest in over a year, though it pulled back to around 25 basis points before the weekend. Similarly, the UK’s two-year yield premium over Germany has surged from 120 basis points in mid-August to around 190 basis points currently. This sharp rate differential has supported sterling, but as markets recalibrate their expectations for future rate cuts, this advantage may narrow.
Sterling’s Tough Week:
Sterling had a challenging week, shedding 2.2%, its steepest weekly drop since February 2023. The currency’s decline was driven by two main factors:
- BoE Governor Bailey hinted that the pace of monetary easing could accelerate, softening the outlook for the pound.
- Rising US rates added pressure, particularly after the strong US employment report.
Sterling fell sharply from $1.3375 at Monday’s close to $1.3070 by the end of the week. Now, the $1.3000-$1.3050 area is seen as key support. A decisive break below this range could trigger further selling, potentially pushing sterling down by another two cents toward $1.2800-$1.2850.
Outlook:
The August GDP figures are not expected to reverse the narrative of economic stagnation in the UK, and with softer data, the likelihood of an additional rate cut in December rises. For now, markets are focused on how quickly the BoE will proceed with easing, and any further declines in sterling may hinge on how aggressively the Fed continues its rate hikes, given the interplay between the two currencies’ rate differentials.
Sterling’s near-term trajectory will remain under pressure unless there is a significant change in the UK’s economic outlook or global interest rate dynamics. However, with the dollar still riding high, sterling could see continued downside risk in the weeks ahead.
China
After a week-long holiday, Chinese markets are set to reopen on October 7, with heightened anticipation following the comprehensive set of economic measures announced in late September. These steps have begun to alter the negative sentiment around Chinese equities, challenging the “un-investible” narrative that had taken hold in recent months. For global investors, being underweight China now increasingly means risking underperformance relative to key benchmarks, especially with China stepping up efforts to stimulate its economy.
Key Developments:
- Policy Measures and Market Response:
The latest interest rate cuts and economic stimulus measures have started to reshape foreign investment strategies. Previously, foreign investors would swap dollars for CNH (offshore yuan) and purchase Chinese bank certificates of deposit. However, these rate cuts have weakened that strategy’s appeal, contributing to capital flows away from such instruments. Simultaneously, Chinese officials have orchestrated a rally in the yuan, akin to Japan’s recent yen intervention, helping ease some of the downward pressure on the currency. - Yuan Strength and Repatriation of Foreign Earnings:
With the yuan’s recent strength, spurred in part by Chinese intervention, domestic companies have begun repatriating foreign currency earnings, selling dollars in exchange for yuan. Previously, these companies had held onto foreign earnings in anticipation of further yuan depreciation. This shift has lent further support to the yuan, reflecting confidence in the government’s ability to manage its currency and stabilize the broader economy. - Property Market Support and Structural Reforms:
Beijing has also unveiled additional measures to support the property market and stabilize house prices, though skepticism remains high among foreign observers. Many doubt the effectiveness of these moves, pointing to a persistent gap between declaratory policy (what is promised) and operational policy (what is actually implemented). However, Beijing’s focus on encouraging share buybacks and aiding industry consolidation may be underappreciated efforts that could contribute to more profound structural changes in China’s economy. These initiatives could gradually shift the tide, even though investor confidence has yet to fully recover.
Currency Market:
The US dollar begins the new week riding a six-session rally against the offshore yuan (CNH), driven in part by strong US employment data that pushed US interest rates higher and weighed on the yen. The dollar approached CNH7.10 in the wake of these developments, a notable rise from the CNH7.0 level before China’s holiday. The next important technical level for the dollar lies in the CNH7.14-CNH7.15 range. If the dollar strengthens further, this area will be key to watch for potential resistance or consolidation.
Investment Implications:
The reopening of Chinese markets and the renewed focus on stimulus and structural reforms suggest that staying underweight on Chinese equities could result in underperformance relative to global benchmarks. Investors who are heavily focused on shorting the yuan or maintaining defensive positions in Chinese assets may need to reconsider their strategies as Beijing’s latest measures take effect. Additionally, the strength of the yuan and the potential for further capital inflows into Chinese markets could set the stage for a shift in sentiment, even if foreign skepticism remains high.
For now, the outlook hinges on the implementation and efficacy of China’s policy moves, particularly in stabilizing the property market and fostering long-term economic growth. The ongoing currency dynamics and China’s efforts to consolidate industries may provide tailwinds to those willing to engage with China’s evolving market environment.
Japan
Japan has a new prime minister, Ishida, who is stepping into leadership at a time when the economy is showing signs of forward momentum and seems to have escaped the long-standing grip of deflation. Ishida inherits an economy with a projected budget deficit reduction, expected to decline from 5.5% of GDP this fiscal year to around 4.8% next year. This fiscal improvement reflects a healthier economic outlook, though challenges remain, particularly in the context of monetary policy and potential political shifts.
Economic Outlook and Policy:
Japan’s monetary policy under the Bank of Japan (BOJ) is expected to gradually become less accommodative. With speculation that the BOJ may start to unwind some of its ultra-loose policies, including rate adjustments and reducing the central bank’s balance sheet, the direction of Japan’s economy is likely to shift from the aggressive stimulus seen in recent years. This policy shift will be closely monitored by markets, especially with Japan’s economy gaining some traction.
There is also growing talk that Ishida may call for early elections to secure his own mandate, which would solidify his political standing. His main challenger, Noda, who now leads the Constitutional Democratic Party, is considered a skilled debater and could provide robust opposition. This could lead to heightened political uncertainty in the short term, depending on the timing of potential elections and the strength of Noda’s challenge.
Labor and Consumption Trends:
While labor earnings have risen by 3.4% year-to-date through July, real wage growth, when adjusted for inflation, has been modest, with a 0.4% increase. This marks a small but notable improvement, as June and July saw the first real wage gains in over two years. However, household spending remains tepid, up only 0.1% year-to-date, reflecting Japan’s long-standing trend of high savings rates and low consumption propensity. Despite wage growth, Japanese households have yet to meaningfully shift towards higher consumption, which could limit broader economic recovery.
Trade and Investment Flows:
Japan continues to run a current account surplus alongside a trade deficit, a dynamic that usually deteriorates in August due to seasonal factors. The upcoming current account report will provide valuable insights into Japan’s portfolio flows. In recent months, Japanese investors have been significant buyers of foreign bonds, and to a lesser extent, foreign equities. Meanwhile, foreign investors have been small net buyers of Japanese bonds but have been larger net sellers of Japanese equities. This indicates that Japanese capital continues to seek higher yields abroad, while foreign appetite for Japanese stocks remains weak.
Yen and Carry Trades:
The recent US jobs report triggered a jump in the US 10-year yield, which in turn lifted the US dollar to JPY149, the highest level since mid-August. This strength in the greenback has sparked speculation about a potential bottoming pattern for the yen, with projections toward JPY150-JPY151. Some market participants are discussing new yen carry-trade opportunities, where investors borrow in yen to invest in higher-yielding currencies. However, one key feature of a viable funding currency is low volatility, and that’s where the yen currently faces a challenge.
Three-month implied yen volatility is near 11.8%, the highest among G10 currencies, which complicates the carry-trade strategy. High volatility increases the risk for investors engaging in carry trades, as currency fluctuations could offset the yield differential they seek to exploit.
Market Implications:
The combination of rising US rates, a strengthening dollar, and Japan’s potential shift in monetary policy could put further pressure on the yen. The JPY150 level is a psychological barrier, and if broken, it could trigger more significant movements. However, the high volatility of the yen might discourage aggressive carry-trade plays in the near term.
Meanwhile, the Japanese equity market remains vulnerable to foreign outflows, as evidenced by the recent selling trends. While foreign bond purchases remain steady, the outlook for Japanese equities could hinge on both political developments and the effectiveness of Ishida’s economic policies.
Overall, Japan’s near-term economic trajectory looks cautiously optimistic, with improving fiscal conditions, moderate wage growth, and stable investment flows. However, political uncertainty and the BOJ’s gradual policy shift will be key factors influencing market sentiment in the months ahead.
Canada
The Bank of Canada (BoC) appears to be on track for a 50-basis-point rate cut at its upcoming meeting on October 23, with the odds favoring this scenario barring any surprises in the September CPI data, set for release on October 15. Recent economic data, including Canada’s August merchandise trade balance and September employment figures, are unlikely to stand in the way of further easing, reinforcing the dovish outlook.
Economic Overview:
- Narrowing Trade Deficit: Canada’s goods trade deficit has significantly improved this year, narrowing to about C$1.4 billion through July, down from approximately C$4.9 billion during the same period in 2023. This improvement reflects a recovery in exports and a better balance in trade flows, but it’s not enough to alter the broader picture of a slowing economy.
- Slowing Labor Market: Canada’s labor market is clearly losing momentum. Full-time job growth through August is running at about one-third of last year’s pace, and the unemployment rate has risen from 5.7% in January to 6.6% in August. This cooling in the labor market will likely support the BoC’s decision to ease monetary policy, as employment growth decelerates and higher unemployment signals weakening domestic demand.
- Political Pressure: Adding to the mix are political challenges for Prime Minister Justin Trudeau and his minority Liberal government. Trudeau may face another confidence vote at the end of October or early November, with the Bloc Quebecois threatening to vote against the government. This political uncertainty could further weigh on economic sentiment, but it’s unlikely to change the BoC’s path for near-term monetary policy.
Canadian Dollar (CAD) Performance:
Despite the broader weakness in the Canadian economy, the Canadian dollar (CAD) has held up relatively well, losing about 0.4% against the US dollar last week, making it the best-performing G10 currency. This resilience is largely due to the CAD’s typical performance in a strong US dollar environment, where it often fares better against other currencies on the crosses.
After bottoming near CAD1.3420 in late September, the US dollar (USD) climbed to nearly CAD1.36 by the weekend, coinciding with the 200-day moving average. The CAD1.3620 level presents initial resistance, with further resistance at CAD1.3650. If the US dollar maintains its strength and the BoC moves forward with the expected 50 bp rate cut, the Canadian dollar could face further pressure, particularly if US yields continue to rise and draw capital away from Canada.
Outlook:
The most likely scenario heading into the BoC’s October meeting is a 50-basis-point cut, especially with the recent softening in the labor market and the improving but still fragile trade dynamics. The September CPI could provide a last-minute surprise, but unless inflation deviates sharply from expectations, the BoC will likely proceed with easing to counter the slowdown in growth.
From a currency perspective, the Canadian dollar is expected to remain under pressure in the face of a stronger US dollar and dovish expectations for the BoC. If the greenback breaks through the CAD1.3620 resistance, further upward momentum toward CAD1.3650 is possible. Traders should keep a close eye on CPI data and any political developments in Canada, as these could introduce additional volatility to both the currency and broader market outlook.
Australia
The Bank of Canada (BoC) may be taking a notably dovish stance, but the Reserve Bank of Australia (RBA) stands in contrast, with a much less dovish tone. Governor Michele Bullock has emphasized that it is too early to consider a rate cut, and market expectations are slowly adjusting to this view. Pricing in the futures market now reflects a 45% chance of a rate cut by the end of the year, down from around 70% just a week ago, signaling a shift in sentiment as traders realign with the RBA’s more cautious approach. The RBA minutes from the recent meeting, set for release on October 8, may reinforce this stance. While the RBA dropped the reference to a potential rate hike, the overall message likely remains the same: rate cuts are not on the immediate horizon.
Meanwhile, the Reserve Bank of New Zealand (RBNZ) is taking a much more dovish path. The RBNZ meets on October 9, and the market is pricing in an almost 75% chance of a 50-basis-point rate cut. This dovishness is driven by the country’s weakening economic conditions and broader global trends. The market expects 94 basis points of cuts in total by the end of the year, with this meeting being one of two scheduled for Q4.
Australian Dollar Outlook:
The Australian dollar (AUD) has shown some weakness after peaking near $0.6940 early last week, finishing around $0.6800 by the weekend. On its pullback, the Aussie approached the 50% retracement level of its rally since September 11, which sits around $0.6780. A break below this level could signal further downside toward $0.6750 and potentially even $0.6700. Near-term resistance is expected around $0.6840, so the pair may face challenges moving higher unless stronger economic data or external factors shift sentiment back in favor of the AUD.
New Zealand Dollar Outlook:
The New Zealand dollar (NZD) had a tough week, shedding 2.8% and falling slightly below $0.6150. With the RBNZ poised for a rate cut, the kiwi could see further downside pressure. Support may be found in the $0.6100-$0.6115 range, but a break below this area could push the currency down toward $0.6050. The weak kiwi reflects broader concerns about New Zealand’s economic outlook and the aggressive dovish expectations from the market.
Broader Implications:
The divergent paths between the RBA and RBNZ highlight the varying approaches within the G10 central banks. While Australia is holding off on cuts and keeping a cautious outlook, New Zealand is leaning more heavily on monetary easing to counter economic headwinds. This divergence is likely to keep pressure on the NZD relative to the AUD, particularly if the RBNZ follows through with a large rate cut.
For traders, key levels to watch in the AUD/USD are $0.6780 as a support level and $0.6840 as resistance. For the NZD/USD, $0.6100-$0.6115 is crucial support, with $0.6050 in focus if the downside persists. The upcoming RBA minutes and RBNZ meeting will provide more clarity on the near-term trajectory for both currencies.
