There has been a significant shift in the outlook on bond markets and this is impacting across asset classes. How this plays out in the coming days could be key for the medium term outlook. Focus is on US inflation data this week. We consider the outlook on forex, equities and commodities markets.
Markets seem to have misread the Fed at its September meeting. Yields fell after the FOMC meeting and spent the next week subdued, questioning the removal of the word “accommodative”. However this all changed on comments from Jerome Powell last Wednesday. Real interest rates have only just gone above zero (Fed Funds range is 2% to 2.25% whilst inflation is around 2%) and Powell noted that interest rates are still accommodative but that the FOMC is gradually moving to a place where they will be neutral. “We may go past neutral – but we’re a long way from neutral at this point, probably”. Further rate hikes ahead but, “If we see things getting stronger and inflation going up then we might move a little quicker.” That makes incoming data crucial – especially on inflation. The timing of these comment drove yields sharply higher as it came on the same day that the ISM Non-Manufacturing posted a record high. Friday’s payrolls report was a touch mixed, however a headline miss will surely be Hurricane Florence related and unwound next month. Average Hourly Earnings slipped to 2.8% as expected, but any data going forward that is now inflationary could help to pull yields further higher. All eyes will therefore be on the prices data for both producers (PPI) and consumers (CPI) this week. Risk appetite is certainly linked to rising yields, with an increasingly risk averse move seen across equities and forex, whilst emerging markets are again under pressure. If US inflation surprises to the upside, strap yourselves in, it could be a bumpy ride.