US equities ended the week on a positive note amid growing hopes that the US economy can achieve a soft landing where the US Federal Reserve gets inflation under control without triggering a recession. This has provided a supportive backdrop for risk sensitive assets. Market volatility following the surprise Bank of Japan (BOJ) monetary policy adjustment was contained with major equity indices trading higher. The S&P gained 1% and remains close to 15 months highs.
US economic data showed a cooling in inflation pressures. The core personal-consumption expenditures price index, which is closely monitored by the Federal Reserve (Fed), rose 0.2% m/m in June. The annual rate fell to 4.1% y/y from 4.6% in May. Consumption spending increased more than expected supported by warm weather and a one-off uplift to social security payments. The rundown in excess savings accumulated during COVID and the restarting of student loan payments from September are potential headwinds to spending going forward.
The employment cost index (ECI) slowed to 1% q/q in Q2. This is the smallest increase since Q2 2021, but the annual rate (4.6%) is still elevated and is above the levels thought to be consistent with the Fed’s inflation target.
The BOJ adjusted its yield curve control (YCC) mechanism to make it more sustainable. Although its inflation projections were upgraded, the BOJ has argued that prices are not being driven by underlying consumer demand and there is still some distance to achieving price stability of 2%.10y bond yields can now trade to a maximum of 1%, up from 0.5%, with the BOJ conducting ‘nimble’ market operations between 0.5%-1.0%. The decision unleashed a period of extreme Yen volatility and yields on 10-year Japanese government bonds (JGBs) rose 11bps to 0.56%, the highest level since 2014, with the BOJ move viewed as a precursor to further unwinding of the ultra-easy monetary policy settings.
Japanese financial institutions are significant investors in global bond markets and rising JGB yields may reduce outbound portfolio flows. U.S. Treasury yields rose initially following the BOJ decision before retracing into the weekly close. 2-year yields reached a session high of 4.94% before slipping back to 4.88% while 10-year bonds closed at 3.95%, 10bps below the highs of the day.
The US dollar was mixed in offshore trade losing ground against European currencies and making strong gains against the Yen. USD/JPY reached lows near 138 following of the BOJ decision as market participants took time to interpret the nuanced adjustment to the YCC mechanism. USD/JPY then rebounded above 141, more than 2% higher from the intra-day lows.
NZD/USD traded lower initially overnight Friday making a fresh weekly low near 0.6120 before rebounding into the global close. The NZD underperformed on the European crosses and NZD/AUD made modest gains to 0.9260.
NZ domestic fixed income markets moved higher in yield on Friday reflecting offshore moves and received a further uplift following the BOJ decision. The curve bear steepened with the 2/10s swaps curve closing -86bps up from the recent lows near -100bps. Bonds outperformed swaps. Australian 3-year and 10-year bond futures are close to 12bps lower yield in the overnight session following the local close on Friday.
ANZ business confidence is released today and the focus on the international economic calendar is China PMIs as well as advance readings for Q2 GDP and CPI for the Eurozone.
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