Dollar Soars on Sky-High Yields, Gold Plummets

In the euro area, we receive inflation data from Spain and Germany which will give some clues ahead of the aggregate euro area inflation print tomorrow.In the US, Powell hosts a town hall speech at 22:00 CET with Q&As. There are several ECB speeches today including Holzman as well as a couple of speeches by the Riksbank members.

The oil price keeps rising as an unexpected decline in China's inventory added to the speculation of a "deficit" in the supply versus demand as US stockpiles are also running low. Rising energy prices will add to the inflationary pressure and supports the view that central banks will be "higher for longer".

Federal Reserves Kashkari stated in various interviews yesterday that he believes that more than one hike could be necessary should the past tightening not have the desired effect. On the other hand, a potential US government shut-down could have the opposite effect.

The main event in the European markets today is the Spanish and German inflation data where inflation is expected to have risen to 0.6% m/m in September relative to 0.5% m/m in August (and 3.3% y/y vs. 2.6% y/y). German inflation is expected to rise 0.3% m/m relative to 0.4% in August (4.5% y/y vs. 6.4% y/y).

Equities: Global equities were marginally higher yesterday but with huge regional and sector differences. There were two big drivers yesterday, higher yields primarily in the long end of the curve and higher oil prices. Energy sector as the best performer is no surprise under those circumstances. However, the sector shifts out defensives into industrials and other cyclicals was more surprising as investors currently see higher yields as a challenge for the economic backdrop. In the US: Dow -0.2%, S&P 500 +0.02%, Nasdaq +0.2% and Russell 2000 +1.0%. Markets in Asia are quite negative today as the oil price continues to march towards 100 dollar per barrel. US and European futures are mixed this morning.

FI: Yields rose significantly yesterday after an initial decline and thus follow the rise we have been seeing after the central banks meetings during the past weeks. There was a very modest bullish flattening as well as a modest tightening of the 10Y Italian-German yield spread after a significant widening for most of September, where the spread moved from 160-165bp to 190-195bp.

FX: New year-highs for both broad USD and oil prices. EUR/NOK broke below the 200D-MA on the back of the oil price rally. EUR/GBP went below 0.87 once again on a generally weak day for the EUR. The SEK continues to perform, although with signs that downside momentum might start to abate soon.

Credit: Credit indices continued to drift wider yesterday where iTraxx Xover widened 7bp further and Main 1bp. While primary market activity picked up, investors seem more price sensitive as reflected in a lower travel from IPT to final pricing.

In Norway, retail sales is expected to have stabilised from April through to June but dropped 0.8% in July. Low real wage growth, higher mortgage rates and a shift towards consumption of services are presenting huge headwinds for retailers, so we expect a further decrease of around 0.5% in August.

The selloff in bonds continues on U.S. government drama. The sell-off in U.S. 10-year papers accelerated yesterday and the 10-year yield spiked to 2.64%. The 2-year yield however, which captures the expectations on Federal Reserve (Fed) actions remain steady a touch above the 5% mark, as even though the Fed's once-dove-now-hawk Neel Kashkari said that the U.S. may need more than one more rate hike to tame inflation, the looming government shutdown talks, the Detroit strikes and a few weak economic data released lately regarding the U.S. melting savings and fading confidence hint that it may be ambitious to bet on more rate hikes before the dust settles. But you never know, the U.S. will reveal its latest GDP update and it is expected to be revised higher. If that's the case, we will likely see more choppiness in bond markets.

Volatility in U.S. bond markets is rising, though we are far from alarming levels, while the U.S. dollar continues to amass major safe haven demands. Nothing stands before the U.S. dollar's safe haven dominance. Gold slipped below the $1900 per ounce; rising yields increase the opportunity cost of holding the non-interest bearing gold, and thus, should keep a sustainable pressure on the precious metal even after the U.S. government shutdown show ends, as the Fed remains sufficiently decided to keep rates higher for longer, and the U.S. Treasury will be issuing more bonds, paying better yields in the next few months.

Energy and technology stocks helped the S&P500 limit losses yesterday. The energy sector was up on a fresh jump in oil prices after U.S. inventories at Cushing and Oklahoma fell to critical levels, hinting at growing supply deficit in global energy space. AI stocks were up as U.S. President Joe Biden said that he will sign an executive action on AI this fall, and Meta announced to introduce AI features in Instagram, Messenger, and WhatsApp. Earlier this week, Amazon announced to buy a $4 billion stake in Anthropic, similar to Microsoft's creator of ChatGPT (which by the way is now valued at around $90bn, whereas it was worth $30bn at the beginning of this year). Amazon is also making a move into the AI's magical world, aiming to give its AWS customers access to AI. Microsoft told investors in the latest earnings call that the AI would increase Azure's revenue by around 2%, Anthropic should help drive similar revenue for AWS. Now, unfortunately for Amazon, investors didn't react with the same excitement than they did with Microsoft's investment in ChatGPT. Maybe a new DoJ probe was responsible for it, or it was just the rising yields. But somehow, Amazon follows its MAMAA peers with a certain lag, the e-commerce wing of the business is certainly responsible for that, in an environment full of worries regarding an imminent slowdown in spending.

Zooming out, the S&P500 remains under pressure. Despite insatiable appetite for AI, the rising yields threaten valuations. There is an important support zone near 4180/4200 region, which shelters the 200-DMA and the major 38.2% Fibonacci retracement on last year's rally. If that support is pulled out, the index will step into a mid-term bearish consolidation zone, and selloff could deepen into yearend. In the short run, the risks remain tilted to the downside, as JP Morgan's Hedged Equity Fund apparently holds tens of thousands of protective puts aimed to protect the long-stock product from selloff and volatility. Those put options will expire on Friday, and their strike price are said to be not far from the actual levels. If exercised, we could see an additional negative pressure on Wall Street stocks.

European markets lost ground for the third day in a row yesterday, with the DAX languishing close to 6-month lows, while the FTSE100 struggled slipping back to its lowest level in almost 2-weeks.

U.S. markets fared little better with the S&P500 and Nasdaq 100 slipping to 3-month lows before rebounding to close slightly higher on the day, while Asia markets have also continued to struggle on concerns over China's property sector.

The wider concern however is how quickly inflationary pressures can recede at a time when oil prices continue to push higher, with Brent prices moving ever closer to $100 a barrel and what effect this 30% move off the summer lows will have on the global economy, consumer consumption patterns and more importantly company profit margins.

Today's European open looks set to see a modest rebound largely due to position adjustment as we head towards the end of the week, month, and quarter tomorrow.

The main focus today is on the latest German and Spain inflation numbers for September which could see a sharp slowdown in the annual rate.

Earlier this month the ECB took the surprise decision to go ahead with another 25bps rate rise in the face of overwhelming evidence that the economy across Europe is slowing sharply, even as inflation has been shown to slowing sharply in recent months.

Despite concerns that the ECB has once again set itself up for another policy mistake the hawks on the governing council carried the day, even as the ECB President Christine Lagarde made the case that it would probably be the last in the current cycle.

Only time will tell how much of a policy mistake this turns out to be, but today's German flash CPI for September could well reinforce this feeling that perhaps the ECB could have exercised a little more patience.

Expectations are for headline CPI in Germany to slow from 6.4% to 4.5%, which in turn is likely to translate into a similarly sharp slowdown in tomorrow's EU flash CPI numbers, at a time when both manufacturing and services PMIs are both deep in contraction territory.

We also have the final numbers for U.S. Q2 GDP, as well as the latest weekly jobless claims numbers, which are expected to increase to 215k from 201k.

After seeing a slowdown to 2% at the start of the year, the U.S. economy looked set to see a strong improvement in Q2 after the initial iteration of Q2 GDP came in at 2.4%, despite a slowdown in personal consumption to 1.6%. The second revision to Q2 GDP threw a bit of a curveball to that after a surprise downgrade to 2.1% when expectations had been for an upgrade to 2.5%.

Today's final adjustment is expected to see this upgraded to 2.2%, with the downward revision coming about due to a fall in inventory levels, which declined by $1.8bn, instead of seeing an increase, while business spending was also reduced on equipment and IP products.

Core prices also slowed for the quarter, coming down to 3.7% in a welcome move that helped make the argument for a pause in the rate hiking cycle when the Federal Reserve met earlier this month.

EUR/USD – found support just above the lows of this year at the 1.0480 area. A move below 1.0480 retargets parity. The main resistance remains back at the 1.0740 area, which we need to get above to stabilise and minimise the risk of further weakness.

GBP/USD – bias remains for a retest of the 1.2000 area, with resistance at the 1.2300 area in the short term. Only a move back above the 1.2430 area and 200-day SMA stabilises and argues for a return to the 1.2600 area.

EUR/GBP – failed to overcome the 0.8700 area yesterday and resistance at the 200-day SMA at 0.8720, which is capping the upside. A break of 0.8720 targets the 0.8800 area, however while below the bias remains for a pullback. Support now at the 0.8620 area.

USD/JPY – still on course for the 150.00 area with support currently at the lows last week at 147.20/30. A break above 150.00 retargets last year's higher at 152.00. Major support currently at the 146.00 area.

Oil prices extended their gains on Thursday after surging more than 3 per cent the previous day as a large drop in U.S. crude stocks stoked supply concerns in a tightening crude market.

Brent, the benchmark for two thirds of the world’s oil, was trading 0.71 per cent higher at $97.24 a barrel at 8.09am UAE time.

West Texas Intermediate, the gauge that tracks U.S. crude, was up 0.96 per cent at $94.58 a barrel, the highest since August last year.

On Wednesday, Brent settled 2.76 per cent higher at $96.55 a barrel, while WTI closed up 3.64 per cent at $93.68.

"Crude prices are rising again after another inventory report reminded energy traders how tight the oil market has become," said Edward Moya, senior market analyst at Oanda.

"Brent crude is now just over a few dollars away from the $100 price level, which could see further momentum buying if global leaders don’t do anything to try to jawbone prices down," Mr. Moya said.

U.S. crude inventories, an indicator of fuel demand, fell by 2.2 million barrels last week to 416.3 million barrels, according to the U.S. Energy Information Administration.

Analysts polled by Reuters were expecting a drop of 320,000 barrels in the week that ended on September 22.

Petroleum stocks rose by 1 million barrels last week, while distillate fuel inventories increased by 400,000 barrels during the same period.

Last week, Russia announced a temporary ban on gasoline and diesel exports in response to domestic shortages. On Monday, Moscow said it would lift the export ban on bunkering fuel for some vessels and diesel with high sulphur content.

Oil prices have gained about 35 per cent since falling to a low of $71.84 in June, with the International Energy Agency predicting a tighter-than-anticipated crude market on OPEC+ cuts as China, the world’s second-largest economy, introduces stimulus measures to revive growth.

OPEC+ members Saudi Arabia and Russia announced this month that they would extend supply cuts of a combined 1.3 million barrels per day to the end of the year.

Brent is forecast to trade in the range of $90 to $100 a barrel over the coming months, before ending the year at $95, Swiss lender UBS said in a research note last week.

It does not expect Brent crude to move above $100 a barrel on a "sustained basis" as it would lead to higher U.S. crude supply.

Meanwhile, Goldman Sachs has raised its 12-month Brent forecast to $100 a barrel from $93 and said that the benchmark was "unlikely" to sustainably exceed $105 next year.

The rise in energy prices is not expected to derail a soft economic landing for the U.S. economy, the investment bank said last week.

"Most of the oil rally has probably taken place, measures of inflation expectations appear well anchored, and the Federal Reserve is focused on core inflation," Goldman Sachs said.

The U.S. Federal Reserve's September meeting went largely as expected, with rates unchanged at 5.25 per cent to 5.50 per cent.

However, it was the Fed's hawkish commentary at its subsequent press conference that kept dollar bulls interested.

While markets have priced in one more rate hike in 2023, the central bank said it was "proceeding carefully" and hinted that rate cuts probably wouldn't be introduced until June next year – later than it had previously suggested.

The U.S. Dollar Index, a measure of the value of the dollar against a weighted basket of major currencies, caught a bid to close the week more than 0.25 per cent higher, while U.S. equity markets closed much weaker last week.

The US500 index shed 2.94 per cent, while the UT100 tech index was down more than 3.2 per cent.

It seems the momentum of dollar strength has carried into this week. At the time of writing, the U.S. Dollar Index was testing its 2023 highs at 105.90 levels.

U.S. Treasury yields are also catching a bid, which supports the dollar's strength against equities, various foreign exchange and commodity asset classes.

Last week, yields on two-year government bonds hit 5.2 per cent, their highest level since July 2006.

While 10-year yields also tested October 2007 highs at 4.5 per cent last week, it's important to note that the inversion is still very strong.

Recall that when shorter-term yields remain higher than longer-term yields, similar to what we are experiencing now, this unnatural inversion historically points towards upcoming recessionary conditions.

As long as U.S. yields remain elevated, expect the dollar's strength to remain robust, with all other asset classes remaining under pressure.

Keep an eye out for a triple data release at 4.30pm Dubai time on Wednesday, which includes U.S. gross domestic product, personal consumption expenditure (PCE) prices for the second quarter, and the weekly jobless claims.

U.S. GDP is expected to have edged up to 2.2 per cent during the second quarter, versus a previous reading of 2 per cent.

But it's the core PCE print – the Fed's preferred gauge of inflation – that could see short-term volatility.

PCE prices in the second quarter are expected to have slowed to 2.5 per cent from a previous monthly reading of 4.2 per cent.

While we may see a reading above 2.5 per cent due to higher energy prices in this period, the core PCE will be scrutinised more closely.

Core PCE, excluding food and energy, is expected to come in at 3.7 per cent versus a previous print of 4.9 per cent.

Any growth in the core PCE print will keep U.S. dollar prospects stronger, with equities negatively affected.

Finally, the weekly jobless claims number will continue to offer insights into the strength of the labour market.

Recall that a hotter-than-expected jobs market will directly and indirectly keep inflation higher – and the Fed is conscious of this.

Jobless claims have continued to drop, suggesting that fewer people are filing for unemployment benefits in the short term, which has also supported the dollar.

Expectations are for jobless claims to come in at 217,000 on Wednesday.

I am keeping a support level in the U.S. Dollar Index at 104.50, with 107.20 being the next resistance level, which will be tested in the lead-up to the penultimate Fed meeting taking place on October 31 and November 1.

Looking at equities, I expect to see the S&P 500 test 4,300 levels in the next two weeks, followed by 4,240 levels.

Spot gold has been trading in a rather tight range. I expect short-term support to hold at $1,856 levels, with upsides capped at $1,955 levels.

This creates intraday opportunities for day traders. However, remember to deploy stop-loss orders to protect against extended moves amid these uncertain market conditions.

Southeast Asian central banks are using tools other than rate hikes to defend their currencies against the surging dollar as bets on higher-for-longer Federal Reserve rates take hold.

Indonesia is keeping a tight leash on liquidity by selling bills while Malaysia's interbank rate has risen to the highest since July. The shift comes despite earlier calls for peak rates in Southeast Asia as the threat of food and energy-related inflation pressures as well as elevated Fed rates spur caution.

“We expect central banks across the region to continue using a combination of liquidity tightening and intervention to lean against further depreciation in their currencies against the dollar,” said Abhay Gupta, strategist at Bank of America in Singapore. Southeast Asian central banks are becoming more tolerant of “pseudo tightening,” he added.

The rate differential between benchmarks from Southeast Asia and the U.S. has continued to widen as central banks in Indonesia, the Philippines and Malaysia paused rate increases in the first half of the year. Malaysia's benchmark rate is now at a 250-basis point discount to the upper bound of the Fed fund rate, which is a record gap. It is also 2.3 standard deviations below the five-year rate differential. The same gauge for Indonesia stands at -2.2, the Philippines (-1.8) and Thailand (-1.7).

Despite the wide rate gap, Bank Indonesia has so far refrained from signaling rate hikes. It has instead started selling so-called SRBI securities or notes with tenors of six-, nine- and 12-months to attract foreign inflows and reduce the reliance on the benchmark rate, which if tightened too much may hurt the economy.

It's not just Indonesia, central banks in Malaysia and the Philippines are also using bill sales to tighten liquidity and drive rates higher, said Gupta. The three-month Kuala Lumpur Interbank Rate has risen to 3.57%, the highest since July 13. Bangko Sentral ng Pilipinas' 56-day bill received an average yield of 6.7191% on Sept 22, the highest since the Aug 25 sale.

The BSP governor said on Tuesday if risks from energy and transport prices materialise, the central bank may increase borrowing costs by 25 basis points at the Nov 16 meeting or earlier. The Thai central bank hiked its key rate by 25-basis points to a 10-year high of 2.5% on Wednesday while signaling upside risk to inflation.