After being in cruise control for most of the week, Friday saw a sudden repricing of the odds of a 50bp cut in September from ~15% to ~50%, with little news to blame. Economic data was mostly in-line and a non-factor, and the Fed remains in official communication blackout, leaving participants to speculate that it was the commentaries of former Fed officials and journalist mouthpieces that ignited the significant futures rally.
Leading the way was the WSJ’s Timiraros, quoting Powell’s former senior advisor (Jon Faust) that his preference would be” slightly toward starting with 50", and that he believes “there’s a reasonable chance that the FOMC might get as well”. Furthermore, the Fed could manage investor concerns over the larger cuts by providing “a lot of language around it that makes it not scary…. It wouldn’t be a sign of worry” and that it could raise “awkward questions” if officials chose to lead with a small 25bp rate cut.
Next, the FT released an article citing a ‘close call’ over whether the Fed will lower rates by half or a quarter in Sep. Finally, it was the former NY Fed President Dudley who delivered arguably the strongest comment, stating that “I think there’s a strong case for 50, whether they’re going to do it or not,” and that the current funds rate is at nearly 200bp over the neutral rate, and “So the question is: ‘Why don’t you just get started?’”
In response to the rate repricing, the treasury curve continues to bull-steepen, with 2/10s gaining 4.5bp on the day and taking the curve to the steepest levels in over 2 years, and forcefully disinverting back into positive territory after a historically long inversion period (since 2021).
We’ve spoken a few times about a ‘regime change’ with the Fed’s official change in narrative to an easing bias, and this is evident through the sustained yield curve steepenign as well as a break in bond-stock correlation back into negative territory.
For pretty much the entire year, stocks and bonds had been moving in tandem as both asset classes represented a one-way bet on the Fed. However, since the August ‘flash crash’, the two have reverted back to their diversification behaviour, as the market is back to focusing on economic trajectory over just Fed stimulus as the main driver of asset prices at this juncture.
With US rates back in the driving seat, FX is taking a reactionary cue with both DXY and USDJPY moving in sync with yields, with both the dollar index (100) and the yen (140) hoving around important technical levels, respectively. On the other hand, US equities have buckled the trend of poor seasonality, at least in the short-run, with the SPX returning the best week all year outside of the chaotic August period.
Part of the strong rally might be due to performance chasing from fund managers, where JPM reports that August saw a $55bln outflow across equity mutual funds, the worst since 2022. Will we see a large reversal of that in the important September quarter-end, regardless of whether we get a 50bp cut or not?
Over in crypto, the correlation of BTC with SPX has risen to approach the highest levels in history, as macro sentiment continues to dominate price action absent any other notable developments on-chain. Prices are back to the 58–60k area as markets saw an interim change in market sentiment, with BTC ETFs seeing 263mm in inflows on Friday, and even ETH ETFs saw a temporary halt in outflows. Vols have eased off as traders continue to favour overwriting BTC calls for income.
Nevertheless, despite the temporary reprieve, the medium term headwinds and challenges remain, with ETH continuing to struggle and ETHBTC grinding down to 5yr lows with no end in sight.
On the news side, announcements of Coinbase’s wrapped BTC (cbbtc) and SWIFT’s announcement raised further concerns over the increasing centralization risks of digital assets, but is likely going to be a continuing trend with TradFi’s increasing presence in the space.
Looking ahead, it’ll be the week of central bank events with the US Fe`d, Norway, Japan, England, Brazil, South Africa, Thailand, Taiwan, and Indonesia all meeting next week. Data wise, China’s credit supply and retail data will be scrutinized on the extent of the ongoing slowdown, though US retail sales on Tuesday should be the most important figure pre-FOMC with the potential to swing the final decision one way or another.
Good luck and the team is looking forward to seeing you in SG at Token 2049 this week!
