It’s been a relatively quiet night across markets (for a change) as investors wait on the US nonfarm payrolls report tonight. US equities are little changed, global rates are generally lower, while the NZD has pushed above the 0.63 mark amidst a broadly weaker USD. The BoE hiked its cash rate by 50bps overnight on inflation concerns, even as the UK economy was expected to enter recession later this year. UK rates and the GBP have been volatile but now show little net change.
Market moves have been reasonably restrained overnight, especially in the context of recent volatility, with markets settling into a holding pattern ahead of payrolls. Reports that China fired rockets over Taiwan as part of its military drills after Senator Pelosi’s visit hasn’t ruffled the market.
After its recent strong run, the S&P500 is largely unchanged on overnight, near its highest level since May. The index has increased almost 15% from its June lows as investors have bailed out of short positions on expectations the Fed won’t raise rates as high as previously feared. The US 10-year rate is trading a few basis points lower than at the NZ market close and is sitting just below 2.7%.
Oil prices have continued to fall, with WTI futures falling below $90/barrel for the first time since February, around 2.5% lower on the day. The recent fall in oil prices, which are now trading below the levels immediately before Russia’s invasion of Ukraine, has contributed to the market’s perception that inflation is likely to peak soon, taking pressure off the Fed to raise rates as aggressively.
The market continues to price almost two rate cuts from the Fed next year despite continued hawkish rhetoric from officials. Overnight, Cleveland Fed President Mester said it was “not unreasonable” to raise the cash rate to “a little above 4” while suggesting she could favour a more frontloaded profile for hikes than what was set out in the Fed’s June projections.
In currencies, the USD is broadly weaker (for no obvious reason), the BBDXY index down by almost 0.5% over the past 24 hours. The EUR is almost 1% higher, at around 1.0250, while the NZD has broken back above the 0.63 mark, 0.8% higher than this time yesterday.
The Bank of England raised its cash rate by 50bps overnight, to 1.75%, as widely expected by economists and markets. The BoE now sees the UK economy entering a recession in Q4 and its projections suggest it will shrink for five quarters in a row, but this didn’t deter the MPC from hiking by 50bps at this meeting. That’s because the BoE’s current concern is around extremely elevated inflation and the risk that there could be second-round effects onto wage and price setting behaviour. BoE Governor Bailey hammered home the message in a subsequent media interview, saying “the worst thing that can happen is that inflation becomes embedded.”
The BoE’s economic forecasts made for sobering reading, with inflation now projected to exceed 13% (!) later this year, largely due to skyrocketing gas prices, while the economy was projected to enter a deep recession, with GDP contracting by a cumulative 2.1%. The BoE’s economic projections are based off market expectations for the cash rate (which was previously expected to peak at around 3%). Inflation is projected to remain above 10% through much of next year before falling back to 2% by the second half of 2024 and then below 1% the following year, an implicit sign that the BoE thinks the market might be embedding too much tightening into the curve.
Separately, the BoE said it would likely start selling down its large stock of bond holdings in September (subject to a vote at the meeting that month). The BoE said it expected to reduce its £844b government bond portfolio by £80b over the first year, around half of which would come by the BoE selling its holdings in the secondary market and the other half by letting its upcoming maturities roll off. The BoE and the RBNZ are the only two central banks that are taking the step of selling their bonds, to reduce their holdings faster than simply waiting for the bonds to mature.
The BoE’s forecasts for an extended recession initially appeared to spook the UK rates market and the GBP, with UK short-term interest rate futures plunging as much as 30bps at one stage, before reversing most of that move. The UK 2-year bond rate is now largely unchanged on the day. Likewise, the GBP slumped more than a cent in the wake of the meeting, but it has since clawed its way back to around 1.2170, now slightly higher on the day (although underperforming the other majors). The market is pricing a roughly 80% chance of another 50bps BoE rate hike for the September meeting.
In economic data, US jobless claims continue their gradual trend high, reaching their highest level since November. While claims can be affected by seasonal adjustment issues at this time of year the underlying trend higher is clear, and consistent with recent reports of major firms (including Meta, Tesla, Ford) announcing hiring freezes or layoffs. Despite signs of some softening in labour demand, the US labour market remains extremely tight on multiple metrics.
NZ rates were higher yesterday, reversing some of the previous day’s surprising outperformance after the release of the HLFS labour market data. Swap rates was 8bps higher across the curve, the 2-year rate closing at 3.77%.
The highlight in the session ahead is the nonfarm payrolls report. The market consensus is for a 250k jobs gain which would be the lowest reading since the end of 2020. The unemployment rate is expected to remain at an ultra-low 3.6% while there will also be interest in average hourly earnings. Canada also releases its labour market report tonight.