Buybacks, Fed Minutes

MACRO FRAME

July’s inflation reports showed persistent underlying price pressures, reinforcing the case for a hawkish Fed stance, though the timing of any rate hike remains uncertain.

STOCK INDEX FUTURES

Equity index futures were lower overnight as the Treasury’s bond support that bought markets temporary relief has faded, while Walmart’s comparable-sales miss and rising oil prices show that higher fuel costs are now reaching the price-sensitive consumer, underscoring a more hawkish policy risk beneath the surface. Walmart is down roughly 6% pre-market after a rare miss on US comparable sales, reinforcing the message that higher gasoline costs are affecting consumer behavior. Regardless, fund managers remain bullish on the equity market, the latest Bank of America Global Fund Manager Survey showed that managers have become increasingly constructive on global growth, with the dominant macro view shifting toward a “no landing” outcome rather than a slowdown. Equity positioning reported that mangers are a net 56% overweight in equities, the strongest reading since late 2021, while cash allocations remain low. The same survey showed that 56% of managers expect a no-landing environment over the next 12 months, a setting that supports the rally but also argues for higher-for-longer interest rates. Managers expect double-digit earnings growth over the next year to the highest level since 2021. This combination, strong growth confidence, elevated equity allocations, low cash balances, and improving earnings expectations, helps explain why the market has absorbed macro and geopolitical shocks with only modest drawdowns.

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 is lower at 99.76, continuing its decline from yesterday, where the Treasury’s buyback program lowered interest rate differential support for the dollar at the longer end of the curve and also market expectations for a September rate hike, weakening near-term support for the dollar. The Treasury’s move to increase buybacks will also reassure markets that the long end of the curve is unlikely to face a disorderly selloff and volatility, reducing risks. The Fed’s minutes revealed concerns about inflation, with many policymakers ready to raise rates, though most expect inflation to slowdown in the second half of the year. Investors will await the Jackson Hole Symposium next week for further clues on Fed policy. Given the lack of forward guidance and still-firm underlying inflationary pressures, a September rate hike remains firmly on the table.

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 0.10% higher at $1.1686, its strongest level in three months. Rising natural gas prices in Europe are expected to maintain upside risks on inflation and have kept the implicit year-end policy spread between the Fed and ECB in favor of the EUR. Money markets are pricing an 96% chance of a hike in September against 31% for the Fed. Traders are pricing around 43 bps of further ECB tightening this year.

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 0.26% higher at $1.3638, a six month high. The Treasury’s announcement that it would at least double the size of buybacks of longer-dated debt is bearish for the dollar. If long-term yields are capped, strong differential support elsewhere should benefit the pound in the near-term. UK inflation rose in July, but the composition still points more to an energy-led headline bump than a renewed inflation spiral. Headline CPI rose to 2.9% YoY in July, up from 2.6% in June; the figures matched consensus forecasts though were higher than the BoE’s 2.8% forecast. Labor data pointed to a broad cooling in hiring and wage pressure, reinforcing the case for the Bank of England to remain on hold despite markets still pricing some tightening by year-end. Markets are priced for 29 of tightening by year-end. For the BoE, the central question is whether energy costs create durable second-round effects in wages and services pricing.

JAPANESE YEN: The yen is 0.32% weaker at 158.66 yen per dollar. Underscoring the debt-overhang risk facing the yen, the spread between Japanese and Chinese 10-year yields has moved decisively in Japan’s favor in recent months. Under normal circumstances, this relative yield improvement would support the yen. Instead, the currency has continued to depreciate, a reflection of mounting investor unease over Japan’s fiscal outlook.

Failure to hike at the September meeting could pressure the yen back toward the 160 area. The US–Japan intervention has not changed the fundamental drivers of yen weakness: wide rate differentials, Japan’s imported-energy exposure, and debt-overhang fiscal concerns. The burden now shifts to the BoJ: markets are pricing a 66% chance of a September hike after the July meeting revealed a more hawkish debate, but a failure to validate those expectations could renew pressure on the currency.

Watch point: Failure to raise rates at the Bank of Japan’s meeting could see the yen drop toward the 160 level.

AUSTRALIAN DOLLAR: The Aussie is little changed at $0.7121, as support from the US Treasury faded against weak employment data in the country. Labor data showed employment fell by 15,800 in June, consensus forecasts expected a gain of 15,000. The unemployment rate rose to 4.5%, suggesting some softness in the labor market. That should ass to expectations that the Reserve Bank of Australia will keep from raising rates further this year, as inflationary risks from the labor market have eased. Still, the data is not yet weak enough for the bank to reduce its tightening bias. Markets imply only a 17% chance of a hike in September. Q3 inflation figures will still serve an outsized role in determining whether or not the bank raises rates this year after second-quarter inflation came in below forecasts.

Watch point: While a durable end to the war would alleviate downside risks to growth and moderate inflation pressures, ongoing pass-through into broader prices is likely to be in focus in upcoming data.

TREASURY FUTURES

Yields are higher across the curve following yesterday’s rally, which was spurred by the  Treasury Department’s announcement that it will double the size of its liquidity-support buyback operations for longer-dated nominal coupon securities, from $2 billion to at least $4 billion per operation, covering the 10- to 20-year and 20- to 30-year sectors from September 9 through November 4. The announcement produced an immediate relief rally in duration: the 30-year yield fell to roughly 5.19%, its largest one-day decline since late June. The program improves liquidity, but it does not resolve the underlying sources of term-premium pressure:  concern over the fiscal outlook, rising bond supply, and persistent inflation Still, fund managers are not looking to dive for the exits, the latest Bank of America Global Fund Manager Survey showed that a net 39% of managers are underweight bonds, compared with 34% in July and 42% in June. Bonds remain one of the market’s more unpopular asset classes, but the underweight is in line with historical values. Regardless, the current environment remains friendly to elevated yields. Meanwhile, the market interpreted the latest FOMC minutes more dovishly at the margin, as reflected in the post-release decline in two-year yields. The minutes nonetheless indicated meaningful concern about inflation, with many participants assessing that additional policy tightening could be warranted if inflation fails to decline. However, most participants expected inflation to slow in the second half of the year as energy and tariff effects faded, but saw risks as skewed upward. Markets are pricing a 31% chance of a hike next month and see 23 bps of total tightening by year end.

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

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