It’s Just a Shot Away
With the Middle East teetering on all-out war, it is hard to really step back and take and even try and make informed decisions on what the markets will do over the subsequent few trading sessions. Suppose the situation continues to deteriorate, which at the moment it looks like it will. In that case, upward pressure will come on oil as the closure of the straits of Hormuz becomes more likely, and the dollar should continue to benefit from a flight to safety. If oil rises sharply, inflation will rear its ugly head again, and to be honest, the COVID effect hasn’t been totally subdued yet, and the anticipation of higher interest rates will grow.
Looking at the US 10-year Bond yield, it could be argued that inflation fears are already growing. But as I said last week, that is only part of the story. With President Biden trying to push through a bill for another $106bn of arms aid, more supply to an already top-heavy market is on the way. The US bond market could be likened to a leaky bucket, with the treasury refilling its coffers simultaneously. Of course, it’s not only the US that is funding massive deficits; so is most of the world, and their rates must surely rise virtually in step with the US. Where the US has an edge when it comes to funding is its, along with the Swiss franc, perceived as a safe haven. However, so far, it would appear that the war has had a limited impact.
Fed Chairman Colin Powell hardly provided succour to those hoping for it when he gave a hawkish speech last week. Indeed, people expecting a rapid series of cuts must now consider taking their chips off the table. In the speech, he emphasized the risks of doing too little in tightening and the potential need for more if incoming data was overly firm, leaving the door open for another rate hike. So, high rates are here to stay, and it is a distinct possibility that they go higher still. Is a hike at the next FOMC meeting in a couple of weeks still on the table? Possibly. Employment still looks robust, and this week, we get some more evidence of how the US economy is faring. GDP, released this Thursday, should come in showing a healthy 4%, which, with 10-year bond yields knocking 5% and mortgages touching 8%, is nothing short of miraculous, but for how long? We also get the Fed’s favoured inflation measure, the PCE deflator, which, with energy prices rising, we may be in for another shock
This week, we see the first central banks to meet since the conflict started in the Middle East when the European Central Bank convene. The euro has been in the doldrums, barely reacting to news and is, at present, driven by flows in and out of the dollar more than domestic concerns. Euro rates are already at record highs, and it is hard to see them tightening further even though inflation is far from beaten, and they may leave a hike in December on the table.
Last but never least, let’s have a quick look at the UK. Last week’s wage data was undoubtedly at the higher end of estimates, and that’s being kind, whilst CPI and PPI were also toppy, putting some doubt as to whether Rishi Sunak will achieve his target. All in all, it was a miserable week for Premier Sunak to celebrate his first year in power against rumblings of discontent on the back benches and letters going into the 1922 committee. I mean, we haven’t had a defenestration of PM for a year, so maybe it’s time for another? It’s unlikely that this week’s data will cheer the Tory Party too much and may put their personal job security further in doubt. Tomorrow’s unemployment data is likely to be gloomy, as are the purchasing managers’ indices. I’m afraid that the world looks a pretty worrying place at the moment, and maybe we are on the precipice of a financial meltdown similar to that of October 1987 triggered by war. However, remember the night is darkest just before dawn, which I can attest to as I write this watching daylight come. Have a good week and stay safe!