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US payrolls undermine July rate cut narrative

It’s been a breakout week for European equity markets moving above their recent highs, to their best levels this year, on a combination of weaker data as well as heightened expectations of further easing from global central banks.

This week’s news that IMF chief Christine Lagarde is the front runner to replace Mario Draghi as president of the European Central Bank when his terms comes to an end in October, has helped turbo charge expectations that we’ll see interest rates move further into negative territory in the coming weeks.

The latest US non-farm payrolls report for June showed that the US economy added 224,000 new jobs, while the unemployment rate edged up to 3.7%. This better-than-expected headline number, along with a wages number that was steady at 3.1%, has taken some of the shine off this week’s equity market rally higher, as it calls into question the narrative behind the prospect of a July Fed rate cut.

Much could depend on what the ECB does the week before the FOMC meets. If the ECB cuts rates on 25 July, it could give cover for the Fed to do the same the week after, even if the data doesn’t fully support it.

Norwegian Air Shuttle has been one of the big gainers today on reports that British Airways owner International Consolidated Airlines is set to renew its interest in the airline. While this has been flatly denied by IAG management, investors appear to be unconvinced and have piled into the stock, pushing it to three month highs. 

Deutsche Bank shares have pushed back above €7 for the first time in two months on reports that management are set to unveil a drastic turnaround plan in the coming days, with the intention of slashing over 20,000 jobs as they grapple with how to turn the ailing business around. While it is encouraging that management finally appear to be grasping the nettle, there is the nagging doubt that any measures taken now may well be too late, and also may well not be enough.

The recent surge in iron ore prices to five year highs doesn’t appear to have helped mining stocks this week, with Rio Tinto, Anglo American and BHP all undergoing steep declines, after their recent surge to multi week highs. A call by one of China’s biggest steel producers for an enquiry into the recent rally in iron ore has seen prices slip back sharply. 


US markets have returned from their Independence Day celebrations with a little bit of a hangover, with a lot of market participants seemingly content to take an extended weekend break, after closing at new record highs on Wednesday of this week, and the US June non-farm payrolls report coming in better than expected.

The latest US payrolls report showed that the US economy added 224,000 new jobs, while the unemployment rate came in at 3.7%. With wages remaining steady at 3.1% it looks like any test of the 3,000 level on the S&P 500 may well have to wait a little bit longer.


Bond yields have continued to come under pressure this week, particularly in Europe where the so called “Japanification” process continues to become more entrenched. German 10-year yields are already at record lows of -0.4%, while earlier this week Italian 2-year yields also briefly went negative despite concerns about the relationship between the Italian government and the European Commission about its budget sustainability.

US bonds sold off sharply this afternoon after the one way bet that had been the prospect of lower US rates came back and slapped investors in the face as US 10 year yields snapped higher from yesterday’s close at 1.95% to move back to 2.05% in the wake of this afternoons jobs report.

What these numbers tells us is that the pricing that a July rate cut is a done deal is anything but, and maybe investors need to start looking at the data, as opposed to hearing what they want to hear.  The Fed could still cut rates this year, however any more data like today will make a July rate cut a much more difficult argument to make, though the ECB could make a decision easier if they cut rates on 25 July.

The US dollar has had a good week despite expectations of a Fed rate cut later this month, though this is probably more of a symptom of the fact it’s the best of a pretty rotten bunch. Even if US rates do decline, its highly likely that rates elsewhere will decline just as much, maintaining the current differential and in so doing maintaining the attractiveness of the greenback. Trump can complain about the strength of the US dollar as much as he likes, the problem he has on a yield basis is, it’s still a decent bet, which this afternoons payrolls report has only served to reinforce.

The pound has had a poor week, largely as a result of the expectation that the next move in rates is likely to be lower, given this week’s disappointing economic data, while at the same time investors are slowly waking up to the fact that a “no deal Brexit” is becoming a much more probable outcome. This is because, in the absence of any actions by MPs, it still remains the default position, as the Conservative party leadership campaign shifts into its next key phase, of members voting for their preferred candidate of either Jeremy Hunt or Boris Johnson, with the latter still the favourite to win.


Crude oil prices have had an disappointing week, drifting lower despite this week’s agreement from Opec+ that the production cuts agreed at the end of last year would be extended by another nine months, into 2020.

It would appear that markets are more concerned about a slowdown in demand than they are with attempts by Opec producers to cap their production levels. Furthermore, Opec producers need to strike a balance between cutting too much and having US producers move in and hoover up any surplus market share.

It’s been a choppy week for gold prices, after last week’s break above the key $1,380 level which has raised the prospect of further gains towards $1,500 in the weeks and months ahead. We need to see a move through $1,440 first but as long as we hold above $1,370 the direction of travel would seem to suggest the potential for further strong gains.


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