Sunset Market Commentary

Markets

• It’s hard not to talk about core bond markets since they’re front and center these days. Upside inflation risks stemming from the energy supply shock (6 months and counting) and the lack of political capital/willingness to sustainably improve bloated public finances are overarching themes. There were several side stories today. Hawkish BoJ member Takata openly questioned both the size and the pace of future rate hikes. He sees 2026 as a turning point. The energy shock and fiscal preference by PM Takaichi’s parliamentary supermajority to increase spending warrant bolder action than the current slow tightening cycle if the central bank wants to achieve price stability in the longer run. Japanese money markets discount a September rate hike, followed by action in December and possibly two more moves by next Summer. That would lift the Japanese policy rate to 2% and might have broader consequences on a global level. Japan is already winding down (foreign) positions as the domestic alternative becomes more attractive while the JPY carry trade reversal also exposes both bonds and stocks. The Japanese 2-yr yield spiked already more than 15 bps this week, to close at 1.87% earlier today. The Japanese 10-yr yield moved beyond 3.0% for the first time since 1996. The Japanese yen was better bid, keeping USD/JPY away from the 160 barrier. Later in the session, the pair hit 158.50 with markets on alert for fresh FX intervention risks. In the UK, PM Burnham held his first parliamentary session since taking office in July. The October budget is his government’s first big test. The recent sell-off in UK Gilts (eg UK 30-yr yield highest since 1998; approaching 6%) likely halved the country’s fiscal buffer from £24bn to £12bn. Recall that Chancellor Reeves following the 2024 election vowed that day-to-day government spending must be covered by revenues. At her first budget, the headroom was a mere £9.9bn. In the US, traders await more economic data. Today’s August ADP employment report (+38k vs +47k expected) printed near consensus and suggests no big downside risks for Friday’s payrolls. That should keep September Fed rate hike bets elevated. The US 10-yr yield today tested the 4.8% top reached early January 2025. It’s the final technical resistance before the 2023 top at 5.02%. For now, a break higher was avoided. In Europe, the likes of ECB Nagel and Makhlouf stated the obvious by all but confirming a second rate hike next Thursday. New GDP/CPI forecasts and the position within the central bank’s framework guidance are the things we keep a close eye on.

News & Views

• The UK British Chambers of Commerce expects marginally higher growth in 2026 than previously. The UK economy withstood the initial impact of the Iran war but businesses remain wary about investment, it said. Growth, now seen at 1% vs 0.9% in June, therefore relies on consumption, not investments. The latter is set to fall 0.2% this year before picking up to 0.4% in 2027. Inflation forecasts were revised lower a tad, from 3.8% to 3.6% with household energy costs and drought-driven food price increases being the main drivers. The unemployment rate is expected to hit 5% and rise further to 5.4% next year.
• The Australian economy grew 0.4% in the June quarter, the country’s Bureau of Statistics revealed today. On an annual basis, GDP expanded by 2.1%. While considered “subdued” by the statistics agency, both prints were better than expected. The quarterly pace was also a quickening from Q1’s 0.3%. The y/y reading surpassed the central bank’s (Reserve Bank of Australia) 1.9% estimate. Household consumption rose 0.4% and contributed about half of the quarterly growth. Net trade added 0.1 ppts to growth as exports (0.8%) outpaced imports (0.5%). It appears the Australian economy both navigates through the Iran war & uncertainty and withstands the RBA’s earlier tightening relatively well. That’s prompting speculation that more may be needed to bring back inflation – 3.5% in July – to the 2-3% target range. Money markets upped tightening bets and now expect another rate increase in November to 4.6% (more than fully priced in). Doing so would bring the policy rate to levels above the peak seen in the wake of the pandemic. The Aussie dollar trades stable around AUD/USD 0.715 but the swap yield bear flattens with the front rising more than 4 bps. The 2-yr yield nears the 2026 15-yr high.