Weekly Market Outlook — The market was quite volatile last week due to a number of major events. The FOMC raised interest rates by 75bps, bringing the Fed Funds rate to 3.25%, and the BOE raised rates by 50bps, bringing the key rate to 2.25%. Markets should expect more fallout and volatility this week. Moreover, the Pound fell on Friday after Chancellor of the Exchequer, Kwasi Kwarteng, released a crisis mini-budget. It’s also the end of the month and a quarter this week! On Friday, we’ll get the latest inflation figures from the EU CPI flash report and US Core CPI for August.
Key Data to watch on the Economic Calendar this week
- Germany: Ifo Business Climate (SEP)
- US: Durable Goods Orders (AUG)
- US: CB Consumer Confidence
- Australia: Retail Sales Prel (AUG)
- Germany: CPI Prel (SEP)
- US: GDP Growth Rate Final (Q2)
- Germany: Unemployment Change (SEP)
- EU: CPI Flash Estimate
- US: Core PCE Price Index
USD — Fed funds rate increased 75 bps
The US Federal Reserve has raised the Fed funds rate by 75 basis points, bringing the key rate up to 3.25%. Additionally, the “dot plots” of the Fed, which show where members believe interest rates are headed, have indicated that by the end of 2022, there will be an average increase of 125 basis points in interest rates. There is a reasonable assumption that this means another 75bps hike in October and another 50bps hike in December. In addition, the central bank also revised its GDP forecast at the same time as it raised its inflation forecast.
According to Fed Chairman Powell, during his press conference during Jackson Hole, he made it clear that his main message from the conference remained the same: “We will fight inflation until we get it back to 2%”. Furthermore, Powell stated that the Fed intends to return to a position of “sufficiently restrictive” interest rates in the future. Although a recession may result from aggressive Fed hikes, the Fed is still on a hiking spree. There is no doubt that this caused stocks and gold to fall, while the US Dollar and yields continued to rise.
Several Fed officials will also speak during the week, following last week’s rate hike and amid projections that borrowing costs will increase further in the months ahead to combat persistent inflation. A variety of other data is also due this week, including durable goods orders, consumer surveys, and revisions to the gross domestic product (GDP) for the year.
GBP — BOE likely to hike rates by 50bps
To some traders’ disappointment, the Bank of England also raised rates by 50bps this week to 2.25%, which disappointed a few who had expected a hike of 75bps. There were 3 votes in favour of a 75bps rate hike, but the vote was not unanimous. Inflation in the UK is currently hovering around 10%. Due to the new administration’s Energy Price Guarantee, the BOE lowered its inflation forecast from over 13% to just under 11%.
Furthermore, all members of the central bank unanimously agreed to begin reducing its UK government bond debt. According to the BOE, the UK may already be in recession due to the bank holiday last week. However, unlike the FOMC, the BOE is concerned about the impact of a recession, particularly one caused by the energy crisis. GBP’s response was muted at the time.
Will the Pound keep getting pounded?
Kwasi Kwarteng, the new Chancellor of the Exchequer, announced a new budget on Friday focused on tax savings and energy bill capping. These plans, however, are not fully funded, which worries investors. According to the BOE, it is going to raise rates and sell government bonds. Without full funding, the government will have to issue new bonds at extremely high rates in order to cover costs.
It was the first time since 2008 that 2-year Gilt yields crossed over 4%, while 10-year Gilt yields reached the highest level since February 2011, near 3.74%. The Pound suffered due to a lack of faith in the new government. EUR/GBP climbed 175 pips, above 0.8900 (its highest level since January 2021). GBP/USD fell nearly 400 pips to 1.0865 (its lowest level since 1985).
EURO — Eurozone inflation probably hit new highs
The European Central Bank is currently deliberating how aggressively to raise interest rates as Euro-area inflation probably reached another record last month, just short of 10%. Consumer-price increases are expected to reach an all-time high of 9.7%. A report on the three largest economies of the eurozone and an analysis of business sentiment are due Friday for the 19-nation zone. In light of prior readings that prompted ECB members to expand tightening at the past two meetings, the new report will likely influence the next decision in a month.
On Thursday, President Lagarde will speak to lawmakers about that backdrop, as well as the implications of the Italian elections. There will be questions about where interest rates will settle after 1.25 percentage points in hikes so far, and if officials have to choose between fighting inflation and protecting jobs. This week is one of the busiest for ECB speeches. Public comments are due from Lagarde’s five Executive Board colleagues and 10 of 19 national central bank chiefs. Investors will be focused on the Federal Reserve’s preferred price gauge, new OECD economic forecasts, and inflation in Brazil.
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