FOMC minutes fail to alter dovish repricing of Fed rate hike expectations

USD: Geopolitical risk premium scaled back as USD & US yields continue to fall

The US dollar has continued to correct lower overnight resulting in the dollar index after hitting an intra-day low yesterday of 105.56. Since the end of last week, the US dollar has been the worst performing G10 currency with weakness most evident against the Swiss franc (+1.0% vs. USD). The Swiss franc has been the main beneficiary from the pick-up in geopolitical tensions in the Middle East although the broader financial market impact remains muted. After initially jumping to a peak of USD89/barrel on Monday, the price of Brent has since fallen back closer to USD85/barrel in a further sign that market participants are becoming more comfortable that the conflict between Hamas and Israel is unlikely to broaden out into bigger regional conflict that would prove more disruptive for financial markets. A view that has been encouraged by the report yesterday in the New York Times stating that the US has collected multiple pieces of intelligence that show that key Iranian leaders were surprised by the Hamas attack in Israel which has reportedly fuelled US doubts that Iran played a direct role in planning the assault.     

Despite the improvement in global investor risk sentiment, US bond yields have continued to correct lower even though the move was initially triggered by the pick-up in geopolitical uncertainty in the Middle East. The 10-year US Treasury yield has moved further below the peak from Friday at 4.89% as it moves back closer to 4.5%. The price action could be an indication that the US Treasury market had become heavily old oversold after relentless selling since the start of September and a correction was overdue. Furthermore, it reflects the clear shift in policy stance from Fed officials since late last week who have signalled that if higher market rates are sustained they are less likely to follow through on plans to deliver one final rate hike later this year.

The release of the latest FOMC minutes overnight from the hawkish September meeting has not encouraged US rate market participants to price in a higher probability of a final hike. There are currently only 3bps of hikes priced in for the November FOMC meeting and 7bps for the December FOMC meeting. The September FOMC meeting will be remembered for reinforcing the adjustment higher in US yields after the Fed sent a stronger signal that rates are likely to remain higher for longer. The tone of the accompanying minutes released overnight sounded relatively less hawkish in comparison. The minutes showed that “participants generally judged that, with the stance of monetary policy in restrictive territory, risks to the achievement of the committee’s goals had become more two-sided”. “All participants” agreed that the committee was in a position to “proceed carefully” and that policy decision would be data dependent and into account the “balance of risks”. The next important economic data release will be the US CPI report later today. Previous reports have revealed that core inflation has slowed over the last three months to August. Unless there is significant upside surprise today, then the US rate market should continue to price the Fed remaining on hold this year which is acting as a dampener on US dollar strength.
         

GBP SELL-OFF HAS LOST MOMENTUM SO FAR THIS MONTH

Source: Bloomberg, Macrobond & MUFG GMR

GBP: Weak growth supports our view that BoE will hold rates

The main economic data releases early this morning have been from the UK. The latest monthly GDP report for August revealed that the UK economy returned to modest growth expanding by 0.2% following a downwardly revised contraction of -0.6% in July. After getting off to a weak start, the BoE recently downgraded their forecast for GDP growth in Q3 down from +0.4% to +0.1%. The monthly GDP report for August is unlikely on its own to trigger a further significant adjustment to their current forecast for weak growth, but risks are currently skewed to an even weaker Q3 GDP print. The breakdown of growth revealed that the service sector bounced back more strongly by 0.4% in August but it was partially offset by ongoing weakness in the manufacturing and construction sectors which continued to contract by -0.8% and -0.5% respectively in August. Weak growth alongside building evidence of slowing inflation in the UK supports our view that the BoE is unlikely to raise rates further this year with the policy rate peaking at 5.25%. It is a view that the UK rate market is becoming more confident in as well. There are currently 10bps of hikes priced in by the December MPC meeting. The sharp scaling back of BoE rate hike expectations contributed to the pound underperforming between mid-August to the end of September  although it has since lost downward momentum at the start of this month.

KEY RELEASES AND EVENTS

Country	BST	Indicator/Event	Period	Consensus	Previous	Mkt Moving
UK	09:30	BOE Credit Conditions Survey	--	--	--	!!
EC	12:30	ECB Publishes Account of Monetary Policy Meeting	--	--	--	!!
US	13:30	Core CPI (MoM)	Sep	0.3%	0.3%	!!!
US	13:30	Initial Jobless Claims	--	210K	207K	!!!

Source: Bloomberg