Morning Bid: Terminal diagnosis? | Reuters

A trader stands beneath a screen on the trading floor displaying the Dow Jones Industrial Average at the New York Stock Exchange (NYSE) in Manhattan, New York City, US, September 13, 2022. REUTERS/Andrew Kelly

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A look at the day ahead in US and global markets from Mike Dolan.

Markets are realizing this inflation fight could be a longer, harder slog than many had hoped.

As stocks suffered one of the biggest one-day setbacks since the pandemic and the dollar jumped again, the most significant reaction to the surprise rise in core US consumer price inflation last month was a rethink of the Federal Reserve’s interest rate horizon next year. read more

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Although futures markets moved to price a one-in-three chance of a full percentage point Fed rate hike next week – which would be the biggest single move since the mid-1980s – consensus forecasts simply cemented expectations for a third 75 basis point move in and row.

But rates are now expected to go higher next year and stay higher longer than previously thought.

Markets now price the so-called terminal rate for the Fed’s hiking cycle as high as 4.35% next March – up a third of a percentage point from where they were just before the CPI report and also from a peak reached in June. And they don’t see policy rates returning back below 4% for at least a year.

Asset manager PIMCO said on Wednesday that next week’s Fed meeting would most likely see big changes to its ‘dot plot’ forecasts from individual policymakers. “We expect a higher forecasted median terminal rate of 4.5%.”

And that meant “the path to a soft landing continues to narrow and a US recession may be more likely than not in the next 12 months,” wrote PIMCO economists Tiffany Wiling and Allison Boxer.

Although still not inverted, the US yield curve between three months and 10-year borrowing rates – seen by some as the best bond market indicator of recession ahead – flattened to its lowest level since the pandemic hit in March 2020.

So if Fed terminal rates for next year are now far higher than they were at the nadir of the stock market swoon in June and recession risks are also higher, are stocks at risk of a relapse to those levels too?

The Wall St jolt rippled through Asia bourses overnight, but US stock futures and European indices found their footing again on Wednesday and the dollar fell back again.

One of the issues is that global funds are already super bearish: underweights in equities are at records, and long-dollars is a very crowded trade. read more

With economic, political and market visibility over the coming winter now so low, markets may also now be chastened in extrapolating their entire medium-term outlook based on one inflation report. Wall St stock benchmarks remain 8% to 10% above 2022 lows and a re-invigorated dollar did not break new ground.

US producer price inflation readings from August are due out later on Wednesday – with both headline and core rates expected to fall, the former by one point to 8.8%.

What’s more, British data out on Wednesday showed headline inflation there fell for the first time in almost a year, well below forecast and back below 10%. read more

Resistance to another round of dollar gains was also heightened by reports the Bank of Japan checked yen exchange rates with major dealers with a view to possible intervention to frustrate its steep slide this year. read more

Crude oil prices were also subdued amid the wider market shock and rising interest rate horizon. Growth in global oil demand is set to grind to a halt in the fourth quarter of this year as an economic slowdown deepens, the International Energy Agency (IEA) said on Wednesday. read more

Key developments that should provide more direction to US markets later on Wednesday:

* US Producer Price inflation for August (8.8% vs 9.8%, 7.1% vs 7.6% core)

* G7 trade ministers meet in Neuhardenburg, Germany

* German 30-year bond auction

Fed Terminal Rate
Reuters Graphics
Inflation

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By Mike Dolan; Editing by Bradley Perrett

Our Standards: The Thomson Reuters Trust Principles.

Opinions expressed are those of the author. They do not reflect the views of Reuters News, which, under the Trust Principles, is committed to integrity, independence, and freedom from bias.

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