Global Bond Rout Pressures Stocks

MACRO FRAME

Fiscal dominance has returned to the market, though underlying concerns over the deficit and debt burden are driving investors to demand more risk premium in an environment with persistent inflation. Meanwhile, yields have broadly taken a backseat to equity market performance as corporate earnings growth and expectations have set up bullish conditions to continue through the remainder of the year.

STOCK INDEX FUTURES

Equity index futures are lower as a global bond rout weighs on stocks. Energy-driven inflation, deteriorating fiscal conditions, and heavy AI-related capital raising are lifting long-term yields across major markets, and tightening financial conditions globally. Renewed US–Iran attacks have lifted Brent more than 2% above $92 dollars per barrel; European gas is at its highest since March. The result is renewed headline-inflation risk and an increased likelihood of central banks maintaining or adding to restrictive policy, furthering the pressure point of a combination of rising energy inflation and higher discount rates for technology equities. Large technology firms are issuing debt aggressively to fund data centers, semiconductors, power, and AI infrastructure. This corporate supply competes with sizeable government issuance for the same investor capital base. The S&P 500 enters its historically weakest month after a strong August, September has averaged a decline of around 1.1%, and investors now face a more difficult combination of elevated energy prices, high sovereign yields and geopolitical supply risk. This week’s JOLTS and payrolls data, together with Broadcom and Dell earnings, will be key catalysts in broader price direction. Strong labor data could reinforce the case for a September hike, while any cooling would be the counterargument to a more hawkish Fed path.

Watch point: Despite tech volatility, the earnings backdrop suggests bullishness, though a September rate hike remains a near-term risk.

CURRENCIES

US DOLLAR: The USD index rose 0.18% to 99.60 amid the bond selloff. While the dollar is finding some strength amid safe haven flows, broad support is coming from expectations that the Fed will hike rates in September. The dollar slipped on Monday in line with a drop in rate hike expectations for September, however, those have since picked up again. Warsh said the Fed will have work to do if policymakers are not confident that inflation is heading in the right direction, indicating that further tightening may be necessary to curb inflation. Markets are currently pricing a September rate hike at 65%, while 2-year yields hover at their highest level since late July. Near-term rate hike expectations are likely to dominate price direction, while the markets renewed bets of a September hike have added fresh support for the dollar on top of last week’s hawkish data. Labor data this week will be the new test for the dollar and expectations of a September hike.

Watch point: The market remains doubtful over a September hike, though the risk of a move upwards in policy should not be discounted given the current inflationary backdrop.

EURO: The euro is 0.22% lower at $1.1591. Inflation in the eurozone rose to 3.3% in July, per fresh data overnight, driven entirely by higher energy prices. However, underlying pressures were rather modest, with core inflation easing from 2.5% to 2.4% amid a drop in services prices inflation from 3.3% to 3.0%. The figures are consistent with the ECB’s read on the economy, leaving the focus for the euro on how much further policy could move higher. Recent reports and commentary from ECB officials have signaled that there is a high chance that the bank holds rates steady for the remainder of the year following a hike in September. Still, money markets are nearly priced for a second move higher in December, seeing 44bps of total tightening by year-end and 53 bps of tightening by February. Favorable data in recent months has shown the eurozone economy to prove resilient in the face of higher natural gas prices, which is likely to keep policymakers confident that the economy could be positioned for an additional rate hike without materially increasing risks to the labor market or consumption. Given that a September hike is being taken as a sure thing by markets, any hawkish shift in pricing toward the Fed will weigh on the euro.

Watch point: Broader price direction will be subject to Fed-ECB policy expectations, which is likely to be favorable to the EUR in the near-term.

BRITISH POUND: Sterling is little changed at $1.3534 as the global bond rout pressured the currency. The recent repricing in Fed rate hike expectations has seen the pound slip around 1% from its six-month high of $1.36745 late last month. Now, focus for the pound will shift to parliament’s return for detailed regarding Prime Minister Burnham’s October budget. Amid the current bond selloff, elevated gilt yields have the potential to weigh on the currency further as public finances in the UK remain strained and the gilt market sensitive to changes in fiscal policy.  The case for a rate hike from the Bank of England remains wary following data last week that revealed cooling hiring demand and moderating wage growth. Those dynamics are reducing near-term inflation risks and are factors the BoE will likely acknowledge in upcoming policy meetings as an argument against tightening. Markets are once again fully priced for a hike by year-end, seeing 31 bps of total tightening.

JAPANESE YEN: The yen fell 0.26% to 160.18 yen per dollar. US Treasury Secretary Bessent on Monday said he believed that the BoJ and government would take action that leads to a stronger yen. Bessent was quoted as saying “I have information that the market doesn’t have, and it’s my belief that the Japanese government and the BoJ will do the things that will lead to a stronger yen.” While the BoJ has been expected to lift rates in September, Bessent’s comments could effectively lock the bank into doing so and put pressure on it to step up hikes. Still, Bessent’s comments have not added much support to the currency as it broke the 160 level for the third straight session. As such, markets continue to appear unfazed by verbal intervention efforts and remain focused on unfavorable fundamentals and interest rate differentials with the US. Markets are pricing a 72% chance of a September hike. Failure to hike at the September meeting would renew pressure on the currency and send the yen back toward the 162 area.

Watch point: Failure to raise rates at the Bank of Japan’s September meeting could see the yen drop toward the 162 level.

AUSTRALIAN DOLLAR: The Aussie fell 0.25% to $0.7147. The Aussie is facing pressure from today’s bond selloff, although domestic data could contain losses. Traders have significantly repriced expectations of a September rate hike as recent data has suggested that inflationary pressures in the economy have not subsided to the degree in which the Reserve Bank of Australia had expected. July’s CPI print and household spending figures came in hotter-than-expected and the details offered no reprieves for policymakers. Like the Fed, the risk of a rate hike at September’s meeting should not be discounted. Money markets now see a 52% chance of a hike at the September. However, Q3 inflation figures will continue to serve an outsized role in determining RBA policy and given that the September policy meeting is a month before the release, policymakers could wait until that data arrives before making any decisions.

Watch point: June’s hiring figures have offered some relief on inflationary pressures, though ongoing pass-through into broader prices is likely to be in focus in upcoming data.

TREASURY FUTURES

Yields are higher across the curve as global bonds are undergoing a synchronized repricing as energy-driven inflation, expanding fiscal deficits and AI-related capital needs compete for scarce investor capital. Japan’s 10-year JGB yield has broken 3% for the first time since 1996, while the US 10-year is near 4.8% and the 30-year around 5.3%; German, French and UK benchmark yields are likewise at multi-year or multi-decade highs. The immediate catalyst is renewed US–Iran conflict, which has pushed Brent above $92 and European gas to its highest since March, but the bigger issue is a rising term premium: investors demand more compensation for fiscal supply, policy uncertainty and the risk that inflation remains structurally less stable. Euro-area CPI accelerating to 3.3% in August has made an ECB hike on September 10 close to fully priced, while higher JGB yields could draw Japanese capital back home and remove a longstanding source of demand for global sovereign bonds. This comes after Warsh moderated his views significantly more than his previous comments in his Jackson Hole Speech, though the rise in oil and renewed strikes between the US and Iran have unwound some of the recent declines in yields at the long end of the cure.  Given that Warsh specifically reaffirmed that PCE index is the Fed’s target, last week’s data reinforces the hawks camp at the FOMC. Money markets have significantly increased odds of a September hike (65%).

Watch point: For Fed policy, without any forward guidance, the September decision will likely remain a close call.

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