Morning Report
Today's economic developments and market movements.
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Key themes: Yesterday’s friendly domestic inflation print saw big swings in local fixed income markets as interest rate expectations were quickly repriced.
The global (ex Japan) shift towards easing policy gained further traction overnight.
While the Fed left policy rates on hold as expected, comments from Jerome Powell further cemented expectations for a September rate cut, driving yields lower across the curve and tarnishing the allure of the US dollar.
The Bank of Japan hiked rates yesterday and announced it would halve the pace of bond purchases. The shift in both US and Japanese yields both moved in favour of the Japanese Yen, pusing the USD/JPY to a 3-month low.
Share markets: US equities had a strong showing overnight as Jerome Powell gave a nod to expectations for imminent Fed rate cuts.
The tech-heavy NASDAQ outperformed, the 2.6% surge was further bolstered by a turn in sentiment for Nvidia and a positive earnings turnout from Meta. Meanwhile, the S&P 500 rose 1.6% and the Dow Jones managed to eke out a 0.2% gain.
On the back of constructive local inflation data, the ASX 200 rallied 1.8% yesterday, marking the strongest daily performance since November 2022. All sectors finished in the green and gains were relatively broad-based, with materials and healthcare leading the mix. ASX futures moved higher overnight riding the global improvement in risk sentiment, pointing to further momentum on the open this morning.
That strength was part of a solid session throughout Asia. Equities also gained in Tokyo (+1.5%), Hong Kong (+2.0%) and Shanghai (+2.2%).
Interest rates: The downside surprise to domestic core inflation drove a significant repricing in Aussie rates yesterday. The 3-year yield tumbled 23 basis points to 3.76%, the largest one-day decline since March 2023. The longer-end of the curve saw a touch less demand but ultimately tumbled 16 basis points to 4.12%.
The massive bull steepening saw the 2-10-year spread returning to 23 basis points, as it was back in mid-June ahead of rate hike bets. What was a meaningful risk of a rate hike priced into markets has all-but-evaporated, with futures markets now pricing in circa 60 basis points worth of rate cuts this year and a full rate cut by February 2025, brought forward by six months from July 2025.
The bid in fixed income continued on futures overnight, supported by moves offshore. The 3-year (futures) yield eased a further 6 basis points to 3.66%, while the 10-year (futures) yield was 7 basis points lower at 4.05%.
Treasury yields slid sharply across the curve in the US, though not as significantly as the repricing in local markets, as Jerome Powell effectively green-lighted market pricing for rate cuts in September, trimming the tail on the distribution of risks.
The 2-year yield fell 2 basis points to 4.26%, while the 10-year yield was down 11 basis points to 4.03%. The slight bull flattening coming against the backdrop of a broad steepening impulse over the past month, with the 2-10-year portion of the curve still trading around its steepest since January.
With rate cuts already fully priced in for the September Fed meeting there was little room for the dial to shift on near-term rate pricing, but expectations firmed somewhat nonetheless, and some further loosening crept into the price later in the year and early into 2025.
Foreign exchange: The US dollar fell on the downward shift in yields as expectations for rate cuts firmed. The DXY fell from a high of 104.53 to a low of 103.93 but remains within its trading range of the last month, albeit at the bottom of the range rather than the top.
The Aussie dollar finished slightly stronger against the greenback after a tumultuous session. The AUD/USD initially plunging through 0.6500 to a near 3-month low of 0.6480 on softer-than-expected domestic inflation data. However, the Aussie found a bid in overnight trade as the US dollar lost some allure alongside firming expectations for Fed rate cuts. The AUD/USD ultimately retracing yesterday’s move to finish around 0.6546.
The Japanese Yen was the big mover as yield differentials moved sharply in the Yen’s favour (though a yawning gap remains in outright terms) supported by the Bank of Japan rate hike and Fed guidance on near-term rate cuts. The USD/JPY fell to a 4-month low of 149.61 and is currently trading around 149.98.
Commodities: The price of oil jumped 4.3% on the back of the greater instability in the Middle East. The EIA also reported that crude inventory had fallen by a larger than expected amount.
Copper and other metals increased after recent losses, helped by prospects of US rate cuts.
Iron ore also jumped back above USD100 as producers commented that demand from China was “fairly robust” and stable. The weaker than expected PMIs also added to hopes for further stimulus in China.
Australia: The Consumer Price Index (CPI) rose 1.0% in the June quarter, meeting expectations. This saw the annual pace lift a touch from 3.6% to 3.8%.
Firm focus was on the Trimmed Mean measure which printed at 0.8% in the quarter for an annual pace of 3.9%. This surprised to the downside ameliorating fears of a potential outsized quarterly print. As with headline inflation, the pace of core inflation continues to moderate from the recent peak of 6.8% in December 2022, with the six-month annualised pace now at 3.8%.
The RBA was forecasting annual CPI inflation to be 3.8% in the June quarter, so headline inflation has come in as they expected. For core inflation, the RBA was also forecasting 3.8% for June so the 3.9% pace is a touch stronger but with a six-month annualised pace of 3.8%, it is heading in the right direction.
Inflationary pressures remain centred on services but did appear in goods as well. There was also further confirmation that consumer demand is drying up in policy sensitive sectors of the economy. Discretionary inflation (ex-tobacco) rose just 0.7% in the quarter taking the annual pace down to 2.1%, the slowest pace since December 2021. Non-discretionary prices is where the inflationary pressures lurk lifting 1.1% in the quarter to be up 4.5% over the year.
The inflation data confirms that the RBA will not need to hike rates again. Rather, we affirm our view that rates are on hold until November, at which point the RBA Board will be in a position to start cutting.
Real retail sales contracted 0.3% in the June quarter, coming in below expectations. This was despite a better than expected 0.5% rise in nominal sales in the June month, the difference reflecting stronger price gains.
The detail suggests much of the nominal strength was due to ‘bargain hunting’ in non-food segments with online sales also up strongly.
The weak retail figures flag the risk of a flat June quarter for wider consumer spending, which accounts for around 55% of economic activity. However, weak consumer spending comes as no surprise given the recent dent in household incomes and with consumer confidence still stuck in the doldrums.
Private sector credit increased 0.6% in June, lifting annual growth to 5.6%. The stronger than expected result was driven by a 1.0% monthly jump in business credit which accelerated to annual growth of 7.7%. While the outsized monthly gain is unlikely to be sustained, business credit demand remains solid, particularly in the context of a broader economic slowdown.
Dwelling prices rose 0.5% in July, the 18th consecutive monthly increase. Monthly growth was unchanged on June, taking the annual pace of dwelling price growth to 7.6%.
Headline growth remains positive but beneath the surface momentum is slowing and conditions are diverging across markets. Three capitals recorded a decline in values over the past three months (Melbourne, Hobart and Darwin). The quarterly pace of growth has slowed significantly in Sydney, while prices in Perth, Adelaide and Brisbane continue to roar ahead at pace. As prices continue to rise affordability becomes a more binding constraint on price growth. However, this drag should be tempered by recent stage 3 tax cuts and the prospect of rate cuts on the horizon.
China: The official Purchasing Managers’ Indices were little changed in July at 49.4 and 50.2 for manufacturing and services respectively. The timely activity indicators remains broadly consistent with authorities 5% GDP growth target, but weak consumer confidence remains a downside risk.
Eurozone: The July flash estimate for the Euro Area inflation was a touch stronger than expected at 2.6%. This was marginally above the June outcome but the monthly pace of price growth was unchanged and core inflation remained stable at 2.9%.
Japan: The bank of Japan (BoJ) pressed on with policy normalisation, hiking the policy rate by 15 basis points to 0.25%. While the move was reasonably foreshadowed by newswires in the days prior, the move was out of step with the consensus view of economists, and the jump in JGB bond yields suggest it was not fully priced into markets.
Governor Ueda underscored positive developments in inflation and flagged upside risks to prices. On balance, Ueda’s remarks probably suggest that another BOJ hike will come sooner rather than later. However, the pace of policy normalisation will be data dependent as underlying economic momentum remains fragile.
The BoJ also unveiled its plan for scaling back its bond purchasing program. Bond purchases will be reduced to around ¥3tn per month, around half of the recent pace. This broadly met market expectations.
United States: As expected, the FOMC kept rates steady at the July meeting but made clear the economy is moving closer to the point at which it will be appropriate to lower the policy rate.
Chair Powell added that the economy does not need to weaken further to justify an easing cycle. Instead, the catalyst will be confidence in the sustainability of the established downtrend in inflation. Powell commented that officials could cut rates “as soon as” September, giving a nod to the move that’s already widely priced into markets and favoured by economists.
Chair Powell emphasised in the press conference the FOMC have the capacity to adjust the pace of easing as necessary. Right now, the market is focusing on the downside risks for the labour market – which we have been highlighting throughout 2024. But, a year ahead, if the underlying strength of the economy holds up, inflation risks will likely assert again.
The Fed’s preferred wages gauge, the employment cost index, increased 0.9% in the June quarter. This was a step down from the 1.2% increase recorded in the March quarter and a touch softer than the 1.0% gain expected by the market.
The slowdown was driven by a moderation of wages and salaries, across both the private and public sectors of the economy. The print is consistent with softening labour market conditions.
Private payrolls increased 122k in July, the slowest rate since January and below the gain of 150k expected by the market. Several industries cut jobs in July, led by professional services, information and manufacturing Wages growth also ticked down in July with annual pay gains for job-stayers slowing to 4.8%, the slowest in three years, while pay gains for job-changers slowed to 7.2% from 7.7% in June.
The Chicago PMI declined to 45.3 index points in July, from 47.4 points in June. The outcome was broadly in line with market expectations. The reading continues to point to a contraction in Chicago’s economic activity. Production led the deterioration this month, with new orders, order backlogs and employment also lower.
Pending home sales increased 4.8% in June, well above the increase of 1.5% expected by the market. This was the largest increase since December. In trend terms, pending home sales remain weak, falling 7.8% over the year to June, a sharper increase than the 6.5% recorded in May.
Business confidence jumped 21 points to 27 index points in July. This was the first increase in six months amid growing expectations that the central bank will start easing later this year. Expected own activity lifted 4 points to 16 index points. Inflation expectations over the year ahead eased from 3.5% in June to 3.2% in July.
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