RECAPPING LAST WEEK
Global equity markets were quietly choppy this week as investors grappled with a rise in global
bond yields, a renewed escalation in U.S.–Iranian hostilities and a shifting outlook for Fed policy.
U.S. equities came under pressure early in the week as the global bond selloff and higher energy
prices challenged elevated valuations, although stocks recovered as the week progressed, with the
S&P 500, Nasdaq 100, and Russell 2000 posting modest gains of under a half a percent. The
markets were ultimately awaiting the Friday release of the August employment report, which
showed payrolls rising a robust 162k versus expectations of 55k along with a revision to July’s
report to reflect growth in payrolls of 21k compared to the initially reported decline of 23k. The
surprisingly strong report pushed market expectations for a 25 bps hike in the Fed Funds target
rate to 58%. While U.S. Treasury yields were pretty much flat on the week, the bond selloff story
took on an international focus with the 10–year Japanese Govt Bond moving above 3% for the first
time since 1996 and similar–maturity German Bunds making 15–year highs. The increase in energy
prices resulting from the resumption in military hostilities with Iran and the potential for inflationary
pressures to be felt more “downstream” is most readily apparent in the price for diesel, which is
near the highs seen during the early onset of the war. Alongside the inelastic steady demand from
the global trucking and shipping industry, the seasonal marginal increase in demand resulting from
Northern Hemisphere farmers preparing for the fall harvest and the roughly 17% of homes in the
Northeast U.S. that utilize the fuel to heat their homes will be exposing those populations to the
sticker shock. The refiners benefiting from “heat (diesel) crack” spreads of $100 a barrel led the
Energy sector to be the week’s strongest performer amongst the S&P 500 sectors, with Consumer
Discretionary correspondingly the worst, at up over 2% and down nearly 2%, respectively. The
other macro sectors that we routinely address (currencies, precious metals, and crypto) all offered
initial knee–jerk reactions to the increased expectation of a rate hike resulting from the strong jobs
report but spent the rest of Friday’s session retracing most or all of it back. The most notable move
in currencies saw the USD weaken against the Japanese Yen back to the lows seen in the
immediate aftermath of the coordinated intervention. A daily chart of the USD/JPY very much
reflects an “escalator up, elevator down” nature of certain markets.
THE WEEK AHEAD
For the 3rd week in a row markets will have to wait until Friday for the main event. The CPI report,
preceded by Thursday’s PPI report, will give market participants one final look at inflation data
ahead of the Fed’s September 16th meeting. Stubbornly high energy prices combined with
elevated yields on the long end of the curve and a 2–year that is trading 50 basis points above the
effective Fed Funds rate are all the sort of market signals that reflect the Fed’s efforts to bring
inflation down to its stated 2% target remain a work in progress. Whether geopolitical
developments related to the Iranian situation escalate or diminish in the coming
days/weeks/months remains the greatest of the known unknowns. However, the ever–present
pricing of tail risk one sees embedded within short–term index option put skew always reminds us
that it’s the unknown unknowns that have the potential to alter everything. Something that we’ll all
be reflecting on as Friday will also commemorate the somber 25th anniversary of the September
11th terrorist attacks.
(Schwab)
