Sovereign International Daily Market Report
Fed sticks to the script with 25 basis point rate cut
The Federal Reserve sprung no surprises on Thursday, cutting rates by 25 basis points and steering clear of any post-election forward guidance.
Highlights:
As expected, the fed funds rate was lowered to a range between 4.50-4.75% yesterday, as was fully priced in by futures markets. The Fed said that the US labour market had weakened, a clear response to recent disappointing NFP data, while also removing the line that it had gained ‘greater confidence’ on achieving the 2% inflation target.
There was no clear forward guidance on rates, however, and Powell outlined to markets that the outcome of this week’s US election was not yet entering into the Fed’s outlook for the economy. The door is open to either a pause or another 25bp cut in December - we think that chances of the former have increased since Trump’s resounding election win.
The Bank of England also cut rates by another 25 basis points on Thursday in an 8-1 vote. The MPC’s communications were rather hawkish, saying that the recent budget announcement would lead to both higher inflation and higher near-term growth.
USD
The Fed announcement went largely as expected yesterday. Powell was tight lipped on future policy moves, although he did say that the path towards a neutral stance would be taken ‘carefully’ and ‘patiently’. We remain of the view that the FOMC will cut rates again at the December meeting, but there are mounting arguments in favour of a pause, not least following the election victory for Donald Trump, which markets believe could push up US inflation.
The path beyond December is less clear. Futures markets currently see around a 1-in-3 chance of another cut in January, but we think that moves on a quarterly basis from December would make more sense. Trump’s tax cuts and tariff plans are likely to make it increasingly tough for the Fed to meet its inflation goal next year, and a more restrictive monetary policy stance is likely to be required as a consequence.
EUR
The euro has found a foothold just below on the dollar, with the common currency recovering around half of its post-election losses on Thursday afternoon. Under the circumstances, the sell-off we’ve seen in the EUR/USD pair has been remarkably contained since the election, although we contest that fresh downside could be in the offing once markets fully re-price their expectations for the global economy, rates and geopolitics under Trump 2.0.
A very impressive set of retail sales figures on Thursday may have partly helped the euro upwards. Sales jumped by 2.9% year-on-year in September, more than double estimates (1.3%), following a 0.5% MoM increase. This adds to a string of optimism that suggests fears surrounding stagnation, or even a near-term contraction in the bloc’s economy, may have been slightly premature.
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GBP
Thursday’s Bank of England announcement was, on the whole, very hawkish. There were no surprises in the rate decision itself, with the base rate cut by another 25 basis points in an 8-1 vote. This is slightly more than anticipated, as investors were bracing for a 7-2 split. Yet, the statement seems to indicate that UK rates will perhaps come down slightly more slowly than had been previously believed. The MPC stressed that additional rate reductions would be ‘gradual’, while repeating the line that it was wary of cutting rates ‘too quickly, or by too much’. The latest growth and inflation figures were also revised higher off the bank of the Autumn Budget announcement. While the MPC believes that chancellor Reeve’s stimulus measures will boost UK growth by 0.75% in the coming year, it also sees her spending, tax and borrowing plans as highly inflationary, with sharp upward revisions issued to the inflation forecasts over the next three years.
Sterling received a modest boost as investors dialled back their bets for UK cuts, with now just two further 25 basis point rate reductions priced in for the next twelve months. This will be a big cause for concern for many households that now face the prospect of higher mortgage rates and consumer prices under the Labour government, which we believe will be ultimately negative for medium-term economic growth. The 10-year gilt yield, the benchmark for UK mortgages, is now trading around 4.6% - just shy of 16-year highs.
Economic Calendar - 08/11/2024-09/11/2024
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