Escalating Risk Aversion Meets Yen Intervention

The RBNZ left the OCR unchanged at 5.5% as expected. The tone of the accompanying statement is somewhat more dovish than expected.

The RBNZ left the OCR unchanged at 5.5% and communicated a relatively dovish statement on the future OCR in the accompanying statement.

The overall tone of the statement and record of meeting displayed a similar degree of concern regarding the persistence of inflation pressures than previously communicated. Market pricing for around a 60% chance of a 25-bps tightening at the November Monetary Policy Statement looks too hawkish and is now adjusting.

The MPC’s seems to still be concerned about the possibility of persistent inflation pressures and that the economy might not weaken as fast as required in the short term. The MPC noted that GDP was stronger than they expected in the first half of 2023. However, the RBNZ retains confidence that the required amount of slowdown will ultimately occur in light of recent indicators such as the QSBO and PMI indicators. Notably, concerns around increased house prices are not as prominent as in our own assessment with the MPC wanting to see how house prices evolve in the summer period when more activity usually occurs. The MPC seems to also take comfort from the increase in mortgage rates that has occurred since August as global long-term rates have increased, helping add disinflationary pressure.

Medium term growth and inflation pressures are seen as being held in check by the continued slowing of the global economy and China in particular given that commodity prices continue to be lower than last year.

We see this statement as more dovish than our expectations. We anticipated the RBNZ would craft a statement that broadly endorsed current market pricing for around a 50/50 chance of a 25 bp rate rise in November. This statement suggests that view was too hawkish. By not communicating any further concern on the inflation outlook means the hurdle for a November tightening remains high.

While we continue to see a 25 bp rate hike in November at this stage, but this must be a lower probability than previously thought. The Q3 CPI and Labour market data will be key to the probability/size of that rate increase as also will global economic and financial markets developments.

Yesterday saw another day where rising U.S. yields and a strong U.S. dollar continued to exert downward pressure on stock markets with the DAX sinking to a fresh 6-month low, while the FTSE250 fell below its July lows to its lowest levels this year.

U.S. markets also fell back with the S&P500 closing just above its 200-day SMA, as well as at a 4-month low. The Nasdaq 100 also had a poor day after the latest numbers for job openings jumped sharply in August by 600k, while the Dow slipped into negative territory for the year.

The sharp rise in long term rates relative to short term rates suggests investors think that U.S. interest rates are likely to remain higher for longer due to the continued resilience of the U.S. economy. Consequently, this bear steepening is slowly unwinding the inversion of the 2/10s from the -105bps we saw at the end of June and where we are now at -35bps.

If this trend of rising long-term rates continues, then stock markets could well be in for even more volatility in the days and weeks ahead.

Let's not forget 2-year yields are still above 10-year yields, a situation which is far from normal. Under normal circumstances long term rates would be above short-term rates, which means this yield adjustment still has some way to go. How it plays out will be key to how stock markets perform over the next few weeks.

Also weighing on U.S. markets was the voting out of U.S. House speaker Kevin McCarthy, by fellow dissident Republicans on disappointment over the weekend agreement of a deal to avert a U.S. government shutdown until November 17th.

With the House now without a majority leader, a new leader will need to be appointed, a time-consuming process if the McCarthy experience is any guide, which could complicate the prospect that we might get a new deal when the current deal expires next month.

If you thought UK politics was dysfunctional, then the U.S. runs it a close second.

The weak finish in the U.S. looks set to translate into a weak European open, with Asia markets falling sharply this morning with the focus today on the services sector and the latest U.S. ADP jobs report.

The recent flash PMIs for France, Germany and the UK suggest further economic weakness in the services sector in September.

France especially has seen a sharp slowdown despite hosting the Rugby World Cup with the flash services number falling to 43.9 from 46. Germany, on the other hand, saw a modest pickup from 47.3 to 49.8.

In the UK we also saw a modest slowdown from 49.5 to 47.2, as concerns about a Q3 contraction across Europe continued to gain strength.

The weak flash readings from France and Germany make it even more puzzling as to why the ECB felt it necessary to raise rates at its last meeting, although one suspects it may well have been its last. In the U.S. the services sector is proving to be more resilient at 50.2, while the ISM services survey has tended to be more resilient and is expected to come in at a fairly solid 53.5.

Yesterday the latest JOLTS numbers for August showed a big jump in vacancies to 9.6m in a sign that the U.S. labour market remains surprisingly resilient driving long term U.S. yields to new multiyear highs. Today's ISM as well as ADP payrolls report could add further fuel to that yield fire with another set of strong numbers, ahead of Friday's September payrolls report.

ADP payrolls saw 177k jobs added in August, falling slightly short of forecasts of 195k. Slightly offsetting that was sizeable upward revision to July from 324k to 371k, but overall, the main gains have been in services. Expectations are for 150k jobs to be added.

EUR/USD – has slipped below the 1.0480 lows of last week, opening up the potential for a return towards parity, with the next support at 1.0400 which is 50% pullback of the 0.9535/1.1275 up move, followed by 1.0200. 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 – looks set for a test of the 1.2050 area with a break targeting the 1.1835 area which equates to a 50% retracement of the move from the record lows at 1.0330 to the recent peaks at 1.3145. 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 – appears range bound with resistance at the 0.8700 area 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 move back to the 0.8620 area.

USD/JPY – made a 12-month high of 150.16 yesterday before plunging to 147.35 on the back of possible intervention from the Bank of Japan. With no confirmation at the time of writing that intervention took place, any further moves higher could be choppy. Below 147.30 signals the top is in.

Gold price started a major decline from well above $1,920 against the U.S. Dollar. The price declined heavily below the $1,900 support zone.

The 4-hour chart of XAU/USD indicates that the price settled above the $1,865 level, the 200 Simple Moving Average (green, 4 hours), and the 100 Simple Moving Average (red, 4 hours).

The decline was even extended below the $1,840 level. A low was formed near $1,815 and the price is now consolidating losses. On the upside, the price is facing resistance near the $1,832 and $1,835 levels.

The next major resistance is near the $1,840 level, above which Gold could revisit the key $1,850 resistance zone. Any more gains might call for a move toward $1,880.

On the downside, the price might find support near the $1,815 level. The next key support is near $1,800. If the bulls fail to protect the $1,800 support, there is a risk of a major decline. In the stated case, the price could decline toward the $1,750 level.

Looking at crude oil prices, there was a sustained upward move toward the $95.00 level before the bears appeared and initiated a downside correction.

Germany's Services PMI for Sep 2023 – Forecast 49.8, versus 49.8 previous.

Euro Zone Services PMI for Sep 2023 – Forecast 48.4, versus 48.4 previous.

UK Services PMI for Sep 2023 – Forecast 47.2, versus 47.2 previous.

U.S. Services PMI for Sep 2023 – Forecast 50.2, versus 50.2 previous.

U.S. ISM Services PMI for Sep 2023 – Forecast 53.6, versus 54.5 previous.

Japanese authorities are facing renewed pressure to combat a sustained depreciation in the yen, as investors eye prospects of higher-for-longer U.S. interest rates while the Bank of Japan remains wedded to its super low interest rate policy.

The yen strengthened sharply against the dollar on Tuesday, leading some market participants to believe Japanese policymakers had intervened to support the currency, although others said the size of the move was not convincing enough.

Below are details on how yen-buying intervention works:

Japan bought yen in September of last year, its first foray in the market to boost its currency since 1998, after a Bank of Japan (BOJ) decision to maintain its ultra-loose monetary policy drove the yen as low as 145 per dollar. It intervened again in October after the yen plunged to a 32-year low of 151.94.

Yen-buying intervention is rare. Far more often the Ministry of Finance has sold yen to prevent its rise from hurting the export-reliant economy by making Japanese goods less competitive overseas.

But yen weakness is now seen as problematic, with Japanese firms having shifted production overseas and the economy heavily reliant on imports for goods ranging from fuel and raw materials to machinery parts.

When Japanese authorities escalate their verbal warnings to say they "stand ready to act decisively" against speculative moves, that is a sign intervention may be imminent.

Rate checking by the BOJ - when central bank officials call dealers and ask for buying or selling rates for the yen - is seen by traders as a possible precursor to intervention.

Japan's top currency diplomat Masato Kanda told reporters on Wednesday authorities will take "appropriate steps against excessive moves, without ruling out any options." Kanda, who has made similar comments in recent weeks, declined to say whether Tokyo intervened overnight on Tuesday.

Kanda may be relying on psychological tactics to fight yen bears, as Tokyo did last October by holding off on immediately confirming whether intervention took place.

By staying mum, authorities can keep investors guessing and discourage speculators from testing the yen's new lows - a tactic known as "stealth intervention."

Investors will know whether Tokyo intervened, and if so how much it spent, when the Ministy of Finance releases monthly intervention data, usually at the end of each month.

Authorities say they look at the speed of yen falls, rather than levels, and whether the moves are driven by speculators, to determine whether to step into the currency market.

With the dollar having breached the psychologically important 150-yen level, many market players see 151.94 yen, where Japan last intervened, as the next threshold, then 155.

The decision is highly political. When public anger over the weak yen and a subsequent rise in the cost of living is high, that puts pressure on the administration to respond. This was the case when Tokyo intervened last year.

While inflation remains above the BOJ's 2 per cent target, public pressure has declined as fuel and global commodity prices have fallen from last year's peaks.

If the yen's slide accelerates and draws the ire of media and public, the chance of intervention would rise again.

The decision would not be easy. Intervention is costly and could easily fail, given that even a large burst of yen buying would pale next to the $7.5 trillion that change hands daily in the foreign exchange market.

When Japan intervenes to stem yen rises, the Ministry of Finance issues short-term bills, raising yen it then sells to weaken the Japanese currency.

To support the yen, however, the authorities must tap Japan's foreign reserves for dollars to sell for yen.

In either case, the finance minister issues the order to intervene, and the BOJ executes the order as the ministry's agent.

Yen-buying intervention is more difficult than yen-selling.

While Japan holds nearly $1.3 trillion in foreign reserves, these could be substantially eroded if Tokyo intervened heavily repeatedly, leaving authorities constrained over how long they can defend the yen.

Japanese authorities also consider it important to seek the support of Group of Seven partners, notably the United States if the intervention involves the dollar.

Washington gave tacit approval when Japan intervened last year, reflecting recent close bilateral relations. U.S. Treasury Secretary Janet Yellen said last month the question of Washington giving the greenlight over another yen-buying intervention by Japan "depends on the details" of the situation.

The global stock market has finally closed the book on what has been the most challenging month of the year. Both the S&P 500 and the tech-heavy Nasdaq fell by nearly 5% in September, while the Dow Jones declined by 3.2% for the month. The big question on everyone's mind is whether this downtrend can be reversed in the months ahead. What are the key factors to watch for into the final quarter of the year?

Wall Street kicked off the first trading day of October and the last quarter of the year on a cautiously positive note. The S&P 500 finished marginally higher, and the Nasdaq gained nearly 0.7%. The day was marked by a better-than-expected ISM Manufacturing PMI, signaling the beginning of the fourth quarter with hints of a potential easing in the contraction of the U.S. manufacturing sector and associated price pressures.

Notably, the prevailing sentiment stemming from the Federal Reserve's September meeting, which suggested that interest rates would remain elevated for an extended period, continues to serve as the backdrop for the equity market's risk landscape. Consequently, even though there is no Federal Open Market Committee (FOMC) meeting in October, discussions surrounding the price pressure are expected to remain a focal point for the month ahead.

Furthermore, from the second week of October, the Q3 U.S. earnings season will provide more insights into corporate revenues and profits. Currently, it appears that the third-quarter earnings season may witness another decline in earnings, further squeezing corporate margins. According to Factset, by the end of September, 64% of companies providing earnings per share (EPS) guidance are projecting negative EPS. This percentage is above the 5-year average of 59%.

However, it's worth noting that in the past two earnings seasons, despite the overall results being less impressive, a significant number of companies still exceeded expectations and outperformed the consensus forecasts. For instance, during the April to June quarter, 79% of reporting companies surpassed their forecasts, above the five-year average of 75%.

In fact, despite the sharp decline from August to September, the S&P 500 remains 10% above its opening position in 2023. Historically, the chances of the fourth quarter preserving yearly gains after a mid-year correction are not uncommon. According to the chart below, in the past 12 instances when the S&P 500 followed a similar pattern to that of 2023, the fourth quarter enjoyed a minimum 2.14% and an average 8.39% quarterly return.

The daily chart of the U.S. 500 has depicted a clear downward trajectory from the year's peak above 4500.

Last week's retreat has brought the S&P 500 to a vital support area, which includes the 200-day moving average, the year-long trend line from October 2022, and the peak from August 2022, situated between 4258-4287.

Based on the price action in the past five sessions, it appears that the significance of this level has notably eased the selling pressure and successfully pushed the RSI out of oversold territory for the time being. On the other hand, a significant resistance zone lies between the August low and the 20-day SMA at 4340 to 4376.

The crude oil markets rose for the third consecutive month in September on improved demand outlooks and expectations for OPEC + to keep supply tight by cutting production further. The WTI futures jumped 21%, and the Brent futures rose 26% in the past three months. However, both benchmark prices fell three days in the past four trading days, making traders doubtful about whether the oil market can re-claim the $100 per barrel. The 100-mark might be achievable, given the increasing demand and reduced supply by OPEC + in the past few months. However, crude prices might not be able to sustain above the level due to global economic uncertainties.

On the supply side, the International Energy Agency(IEA)'s report showed that OPEC+'s output reduction took the cartel's oil production to 50 million barrels per day (bpd) in July to nearly a two-year low as the leader of the organization, Saudi Arabia, voluntarily cut production by an extra 1 million barrels per day and may extend the reduction to the end of 2023. The organization's output sharply declined by 2 mb/d from January this year. At the same time, non-OPEC producers ramped up their production by 310 kb/d to 50.2 mb/d, which may take the global oil output to hit a record of 101.5 mb/d in 2023. The U.S. oil production is the biggest contributor to the increase. At the same time, the cartel's supply had hit a bottom in July and rose for the second consecutive month in September. The monthly Reuters survey showed that production increased by 120,000 bpd due to higher output in Iran and Nigeria in August, with Iran's production hitting a new 2018 high of 3.15 million bpd. The OPEC oil production had risen for the first time since February.

On the demand side, the U.S. commercial crude oil stockpiles decreased by 2.2 million barrels by the week ending 22 September from the previous week. The crude imports increased by 8.2% on average over the past four weeks from the same period last year. The latest IEA's report shows that global oil demand "is set to expand by 2.2 million barrels per day (mb/d) to 102.2 mb/d in 2023, with China accounting for more than 70% of growth. In June and August, global oil demand hit a record of 103 mb/d as major economies had faster growth than forecast in the second quarter. China's improvement in its recent economic data has also fuelled the oil market's rally. However, the momentum may not be sustained in 2024 as the U.S. Fed's rate hikes and China's economic slowdown may dampen demands globally. Also, the increase in electric vehicles will weigh on fuel demands. The IEA expects the global demand will slow to 1 mb/d in 2024.

The uptrend is still intact in the WTI, as it has been moving in an ascending channel since the end of June. However, an oversold signal in the RSI may have caused the correction. In the short term, the price may be able to test the recent high of about 95 again. A bullish breakout of this level can take it to above 101, which is a 61.80% Fibonacci retracement. The near-term key support can be found at the 50-day moving average of 85.33, and then about 80 at the 23.60% Fibonacci retracement.

Brent oil rebounded from the lower band of the ascending channel, and it may continue the uptrend and test the recent key resistance of about 96, a bullish breakout of this level may take the price to 100, which is the 50% Fibonacci retracement and is the previous resistance in November 2022. In the near term, the potential key support can be found at the 50-day moving average of 89. A breakdown of this level could press the Brent price further to test about 84.59 at the 23.6% Fibonacci retracement.