Vanguard Positions For BOJ Hikes To Flatten Japan’s Yield Curve

Summary:

Vanguard Asset Management Ltd. is looking past the political turmoil in Japan with wagers that stand to profit if the central bank increases interest rates this year and flattens the country’s bond-yield curve.

Ales Koutny, head of international rates at Vanguard, is preparing for a hike by the Bank of Japan’s December meeting by doubling down on his positions to sell short-end bonds and buy longer-maturity ones.

The stance contrasts with the prevailing view among investors that the BOJ is likely to stand pat for longer, given the flux in politics, with lawmakers likely cast votes on Tuesday that will determine the next prime minister. The uncertainty has pushed down yields on short-dated Japanese government bonds, which are sensitive to expectations for official interest rates, while yields on longer-maturity debt remain elevated, resulting in a steeper yield curve.

“We now think pricing for the next hike is so far away in the future that it has become an opportunity to get back on the trade,” said Koutny. He sees roughly a 50% chance of tightening this month and acknowledges that political turmoil may delay a hike to December.

Overnight index swaps show just an 23% chance of a rate hike by the BOJ’s Oct. 30 meeting, and 62% for the gathering that concludes on Dec. 19. An increase isn’t fully priced until April.

Koutny has added to his bets on higher two-year swap rates, complimenting existing positions in five- and seven-year swaps. He has also put on a wager to short five-year JGBs while going long on debt maturing in 25 years. This is in addition to his existing seven-year, 30-year flattening position.

“We are of the view that the five-year yield will require the most repricing once markets realize the BOJ will still need to hike,” he said.

The spread between five-year and 30-year JGBs currently stands around 190 basis points, after swelling to around 216 basis points last month, its widest in data going back two decades. Spreads are significantly higher than around 140 basis points seen in the run-up to the BOJ’s previous hike in January, leaving room to narrow ahead of the next tightening.

Koutny has long been a proponent of a flattening yield curve in Japan, and is among a growing group of overseas investors who have been moving into to long-dated JGBs this year. This trade has proven to be painful so far as the BOJ has held off from raising rates since January.

While Vanguard — which manages nearly $2 trillion in active funds — holds firm on its position, fellow long-bond fan RBC BlueBay Asset Management has added an outright short position in 10-year JGBs as a hedge against its flattening trade.

Source: Bloomberg Europe

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Economic

Escalation of Rhetoric and Policy Between the US and Colombia

In a striking departure from long-standing diplomatic ties, President Donald Trump publicly accused Colombian President Gustavo Petro of being a “drug leader,” stating that the United States will halt all financial assistance to the country and introduce new tariffs. This announcement, made via Trump’s social media on Sunday, marks a severe shift in US-Latin America relations, with Trump labeling Colombia as a “drug manufacturing machine” and claiming that Petro has failed to act on the escalating cocaine trade.

This policy change is not without precedent. It follows Trump’s decision in September to decertify Colombia as a reliable partner in counternarcotics efforts, placing it in the same category as nations such as Venezuela and Myanmar. The underlying rationale appears to be that Colombia has not stemmed the surge in cocaine production, which has reached historical highs.

A Measurable Breakdown in US-Colombia Relations

Colombia has received approximately $14 billion in aid from the US since 2000, including around $500 million since 2017 for defense and counternarcotics operations. Trump’s decision to halt this assistance introduces both symbolic and material consequences. Although framed as a response to Petro’s leniency toward drug cartels, the policy change also appears to reflect a deeper ideological clash between the two leaders.

Petro, who came to power in 2022, has adopted a strategy of “total peace,” emphasizing negotiation over force in addressing crime and guerrilla activity. Trump’s administration sees this as ineffective, with drug output and violence continuing to rise. The causal link implied by Trump’s rhetoric suggests that Petro’s policy of engagement directly enables the growth of narcotics operations, though critics argue this is a misreading of complex structural and socioeconomic challenges.

Diplomatic Flashpoints Fueling the Rift

Tensions had already been mounting before the aid announcement. Petro’s controversial remarks at a pro-Palestinian rally where he urged American soldiers to disobey Trump provoked the US to revoke his visa, sparking threats from Colombian officials to reconsider the trade agreement between the two nations. This diplomatic rupture was exacerbated by recent military events, including a US strike on a submarine in the Caribbean allegedly transporting drugs. Petro condemned the action as a “murder” and criticized US aggression.

The bilateral deterioration is no longer limited to rhetorical clashes. Trump’s plan to announce tariff rates imminently suggests a multi-pronged pressure campaign aimed at both punishing Petro and influencing the domestic political trajectory in Colombia, where elections are due next year.

Impact on Colombian Economy and Global Perception

This dramatic shift in US policy comes just as Colombian assets have experienced a strong rally. Investors have increasingly speculated on a potential shift toward market-friendly policies after Petro’s term ends in August. Over the past three months, Colombia’s dollar-denominated bonds have delivered nearly 10% in returns among the best in Latin America.

However, the escalation between Trump and Petro introduces substantial downside risk. Tariffs, coupled with the loss of aid, could undercut Colombia’s economic stability and investor confidence. Sergio Guzmán, head of Colombia Risk Analysis, argues that cutting off aid will leave criminal groups more powerful, as the Colombian state would be left without critical US support to counterbalance these threats. His warning implies a causal effect without aid, the state’s enforcement capacity weakens, and criminal influence expands.

The latest confrontation between Trump and Petro is reshaping US-Colombia relations at a critical geopolitical and economic juncture. What began as an ideological disagreement has now evolved into an actionable policy rupture involving aid withdrawal, threats of tariffs, and mutual diplomatic retaliation. While Colombia remains the epicenter of the world’s cocaine trade, the sharp break in coordination with the US may hinder broader regional security efforts. As the standoff intensifies, investors, diplomats, and policymakers will be watching closely particularly ahead of Trump’s announcement of tariff rates and Colombia’s 2026 presidential election cycle. The outcome may redefine not only bilateral ties but the future of counternarcotics cooperation in the hemisphere.

Source: Bloomberg

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Economic

Downgrade Sparks Market Reaction in French Bonds

French 10-year bond futures declined by 21 ticks to 122.94 in early Asian trading following S&P Global Ratings' surprise downgrade of France’s sovereign credit score from AA- to A+. This unscheduled action reflects deepening concerns over the nation’s fiscal stability and the growing risk that certain institutional investors may be forced to sell holdings due to strict investment-grade mandates.

The downgrade positions France just one notch above the threshold used by many bond funds that require holdings to be AA-rated or higher. While the euro remained relatively stable, the futures market response was sharp compared to the muted reaction in German bonds, indicating elevated country-specific risk.

Widening Yield Spreads Reflect Diminished Confidence

A notable outcome of the downgrade is the expansion of the French-German 10-year bond yield spread, a commonly tracked risk indicator within the eurozone. This spread rose to nearly 90 basis points earlier in the month, compared to under 50 basis points before France's 2024 snap election. Although it narrowed to about 78 basis points following Prime Minister Sébastien Lecornu’s survival of no-confidence votes, the long-term trajectory reveals growing market skepticism.

This divergence in yield spreads suggests a direct causal relationship between France’s domestic political instability and its rising borrowing costs. The spread increase, especially in comparison to countries like Greece and Portugal that historically held lower credit ratings, marks a significant shift in investor sentiment.

Political Instability and Fiscal Reform Paralysis

S&P's decision also spotlighted the erosion of political control and the challenges of fiscal consolidation in the run-up to the 2027 presidential elections. Prime Minister Lecornu’s recent decision to suspend President Emmanuel Macron’s pension reforms originally aimed at restoring public finance stability helped him maintain office but weakened the credibility of long-term budget repair strategies.

The report described France as undergoing its most severe political instability since the founding of the Fifth Republic in 1958. This backdrop has direct implications for economic governance, with no clear roadmap for expenditure control or debt reduction. The lack of a cohesive fiscal consolidation plan now weighs not only on France’s economic outlook but also on its standing among global credit assessors.

Institutional Constraints and the Risk of Forced Sales

France's downgrade means it has lost its AA status from two of the three major rating agencies, with Moody’s review looming on Friday. If Moody’s also lowers its rating from Aa3, France risks falling below the minimum threshold required by some major institutional investment products.

Asset managers like BlackRock, Vanguard, and Legal & General oversee funds that stipulate holdings must average AA or higher across major ratings. While the bulk of French bonds still qualify as investment-grade, certain mandates may require portfolio rebalancing, which could lead to incremental but meaningful selloffs, especially by risk-averse entities such as central banks and pension funds.

This situation creates a correlated pressure point: while the downgrade itself does not automatically trigger sales, it introduces a compliance risk that could amplify market volatility during fund rebalancing cycles.

Budget Negotiations and Moody’s Verdict in Focus

The next pivotal moment lies in the French government’s ability to pass the 2026 budget. Prime Minister Lecornu has chosen not to invoke Article 49.3 a constitutional mechanism allowing financial legislation to bypass parliamentary voting raising doubts over whether the fractured National Assembly can reach consensus in time.

Failure to pass a credible budget would reinforce the narrative of political dysfunction and could influence Moody’s decision. Currently, Moody’s assigns France its lowest AA-equivalent rating with a stable outlook. A downgrade from Moody’s would cement France’s fall below the AA composite benchmark, triggering more pronounced asset allocation shifts and deepening the reputational damage.

France's unexpected credit downgrade by S&P underscores a growing crisis of fiscal credibility amid political fragmentation. While the nation remains within investment-grade territory, the loss of its AA rating from two major agencies signals deteriorating confidence from global markets. The erosion of support for fiscal reform, combined with a lack of parliamentary cohesion, introduces both direct financial repercussions and structural headwinds for economic governance. Investor focus now shifts to the upcoming Moody’s review and the outcome of France’s contentious budget process, which will determine whether the country can restore market faith or face further isolation in European bond markets.

Source: Bloomberg

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Economic

Commodity

Market Overview And Price Behavior

Global oil benchmarks Brent and West Texas Intermediate (WTI) remained stable in early trading following three consecutive weeks of losses. Brent hovered near $61 per barrel while WTI stayed just above $57. These price levels reflect cautious sentiment as investors react to diplomatic developments between the United States and China. Optimism emerged after US President Donald Trump signaled that further tariff escalation may no longer be practical, and discussions scheduled this week could lead to a potential deal.

While this diplomatic easing introduces short-term optimism, it has not yet reversed the broader trend of declining prices. Futures markets show that both benchmarks are likely heading for their third monthly loss in a row, shaped largely by persistent oversupply concerns.

Supply Outlook and Structural Surplus

A key contributing factor to the downward pressure is the growing expectation of a global oil surplus extending through 2026. The International Energy Agency (IEA) revised its forecast last week, projecting the surplus to be larger than previously anticipated. This projection reflects more than a temporary imbalance it highlights a structural shift in production and demand patterns that could keep prices under strain regardless of short-term geopolitical events.

The relationship here is causal: increased output capacity and moderate demand recovery are expected to directly fuel the oversupply, particularly if alternative energy adoption and efficiency measures continue to suppress oil consumption growth.

Geopolitical Tensions and Market Volatility

Despite this surplus-driven bearish sentiment, geopolitical developments continue to inject potential volatility. Ukrainian strikes on Russian energy infrastructure, though not sustained, introduce the possibility of intermittent price spikes due to temporary supply disruptions. These events tend to have a correlational impact on prices, typically resulting in short-lived rallies rather than long-term trend reversals.

US-Russia relations also play a role. President Trump’s announcement of a planned second meeting with Russian President Vladimir Putin to discuss ending the Ukraine conflict hints at potential geopolitical easing. If these talks lead to even partial de-escalation, Citi analysts predict crude could retreat further, with Brent possibly sliding toward $50 per barrel.

Market Indicators Signal Weakness

Forward-looking indicators underscore the fragile state of the oil market. Brent’s prompt spread remains in backwardation a structure where near-term contracts trade at a premium to later ones typically viewed as bullish. However, this spread has narrowed significantly to just 15 cents, indicating fading short-term demand strength.

More telling is the shift in the spread between the two closest December contracts, which flipped into contango last week. In this bearish structure, longer-dated contracts trade at a premium to nearer ones, suggesting that traders expect weaker near-term fundamentals and continued inventory builds.

Oil markets are caught between opposing forces: cautious optimism surrounding geopolitical diplomacy and persistent structural headwinds from oversupply. While signs of trade détente between the US and China offer near-term relief, the projected global surplus and weak demand indicators suggest the market remains fundamentally bearish. Temporary disruptions such as Ukrainian attacks may spur price jumps, but without significant shifts in underlying supply-demand dynamics, oil prices are likely to remain under pressure heading into 2026.

Source: Bloomberg

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Michelle Reid

China–U.S. Trade War

President Donald Trump said the US will “be fine” with China in comments that come just before the two sides return to the negotiating table and a fragile trade truce nears expiration.

When asked in an interview with Fox News on Sunday about his threat to raise the tariff on Chinese goods by 100%, Trump said the levy was “not sustainable” though “it could stand.”

He added that he had a good relationship with the Chinese leader, and he expected a sitdown to happen in South Korea, where an Asia-Pacific Economic Cooperation meeting starts later this month. “I think we’re going to be fine with China, but we have to have a fair deal. It’s got to be fair,” Trump said.

Treasury Secretary Scott Bessent has said the US and China will hold talks later this week in Malaysia. That came after he met virtually with Vice Premier He Lifeng on Friday, discussions that Chinese state media described as a constructive exchange of views.

A little over a week ago, Trump raised the prospect of canceling his first in-person meeting with China’s President Xi Jinping since he returned to the White House, angry over the Chinese government’s vow to exert broad controls on critical rare-earth elements. He also declared a 100% import surtax on Chinese goods to take effect Nov. 1.

That threatens a trade truce that’s set to run out on Nov. 10 unless extended. After months of tentative stability in the US-China relationship, tensions flared in recent weeks after Washington broadened some tech restrictions and proposed levies on Chinese ships entering US ports. China responded with parallel moves and outlined tighter export controls on rare earths and other critical materials.

China has tried to ease concern over the escalation of curbs on rare earths — critical to making fighter jets, smartphones and even car seats — to soften an international backlash.

In discussions on the sidelines of the International Monetary Fund’s annual meetings last week, Chinese delegates told their counterparts from around the world that tightened export controls will not harm normal trade flows, Bloomberg News reported earlier, citing people familiar with the matter.

The officials said China sought to build a long-term mechanism with the measure, and it was introduced as a response to US provocations such as the expansion of sanctions to capture subsidiaries of blacklisted companies, according to the people, who asked not to be named because the exchanges were private.

Source: Bloomberg Europe

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Frederick Miles

New Zealand’s main opposition Labour Party has unveiled its first key policy ahead of the 2026 general election — a new government fund that will aim to drive investment and economic growth.

The New Zealand Future Fund will be established to focus on domestic investment, Labour finance spokesperson Barbara Edmonds said Monday in Wellington. It will sit alongside the existing NZ$85 billion ($49 billion) New Zealand Super Fund, which invests primarily overseas to support future pension payments.

Labour, which was ousted in the 2023 election, trails the governing National Party in political polling little more than 12 months out from the next election. With the economy smaller than in was in late 2023 and record numbers of citizens leaving the country, the party sees the government’s economic management as a weak spot.

“The Future Fund is how we back ourselves as a country so jobs, opportunity and wealth is made here and stays here,” Edmonds said. “The Fund will invest in New Zealand for the benefit of everyone, building infrastructure and backing innovative businesses to create secure, well-paid jobs and grow wealth in every region.”

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The Future Fund will be seeded with an unspecified capital contribution and a small number of state-owned assets that will provide a dividend stream and a base from which to leverage, Labour said in documents. The selected assets — also unidentified — will be protected by legislation and unable to be sold.

Guardians of New Zealand Superannuation, which manages the NZ Super Fund, will independently govern the new fund. The finance minister will set broad objectives through a letter of expectations.

Labour had 32% support in a recent One News-Verian poll, and alongside potential allies in the Green and Maori parties would control 46% of votes. National has 34% backing and with its current coalition partners would control 51%.

Source: Bloomberg Europe

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James Whitman

Economic

Political

European Central Bank President Christine Lagarde signaled openness to using frozen Russian assets to secure funding for Ukraine as long as countries around the world move in unison.

“I think fair use would consist of an operational loan that would be using cash balances as collaterals,” Lagarde said on CBS’s Face the Nation. “And I think that the strength of the system should be based on everyone holding Russian assets to do the same thing.”

The European Union has been looking more intensely at how to use about €200 billion in Russian funds that it froze after the attack on Ukraine, as other sources of financing for the country’s military and economic needs run dry. The issue is set to be discussed at a meeting of EU leaders this week.

The ECB has previously been wary of seizing the assets, given the potential repercussion for the euro’s international standing and financial stability. Lagarde — who spoke with Ukrainian President Volodymyr Zelenskiy two weeks ago — urged this month that any steps must be compatible with international law.

“If all those countries holding assets that have cash balances available as collaterals go in the same direction of lending the money to Ukraine, to be repaid by Russian financing of the reconstruction of Ukraine because Russia is the aggressor, then I think that would go a long way in convincing Russia that it has to come to the table to negotiate,” she told CBS.

Under plans being discussed by the EU, Ukraine would receive about €140 billion ($163 billion) in fresh loans using the assets. The money would only be paid back if Russia agrees to pay Ukraine for the damage caused by the war. The bloc also wants to coordinate using the assets with other Group of Seven allies, including the US, where some of the funds are held.

The matter is especially sensitive for the euro area as the ECB has identified an opportunity to increase the euro’s international role amid President Donald Trump’s attacks on global trade and US institutions including the Federal Reserve.

“I see signs that the attraction of the dollar is slightly eroded and future will tell whether there is more erosion of that,” Lagarde said on CBS, citing gold’s recent rally and capital flows out of the US to destinations including Europe.

“For a currency to be really trusted, you need a few things,” she said. “You need geopolitical credibility, you need the rule of law and strong institutions, and you need — I would call it — a military force that is strong enough. I think on at least one and possibly two accounts, the US is still in a very dominant position, but it needs to be very careful because those positions erode over the course of time.”

Turning to trade and the implications of higher US tariffs on the global economy, Lagarde said “we’re yet to feel the pain.” At the moment, companies in the US and Europe are absorbing around two thirds of the effects by squeezing their margins, she said.

But this can’t last forever “and when they don’t because it’s becoming too tight, then it’ll be on the consumer,” she said. “So, it’s a question of time.”

On China’s recent moves to restrict the export of rare earths and US threats of retaliation, Lagarde said she would “discount a little bit of the positioning at the moment, because this is typical of negotiating tactics on both sides.” But she stressed that China has a “very, very strong trading position on that front and they’re going to use it.”

Therefore, the US, Europe and other countries “should join forces and be a purchasing force on the other side of the table of a selling force,” she said.