The Suntans Are Fading – But inflation Isn’t
This post was originally published on jpfs.com
I’m back from holiday, just in time for September – the month when financial markets traditionally stop serving cocktails and start handing out margin calls.
During August, investors happily bought equities, artificial-intelligence shares and almost anything displaying signs of upward momentum. The S&P 500 gained 2.6%, the Nasdaq 3.9% and the Dow 1.3%. Then oil surged, government bond yields climbed and central bankers began muttering about higher interest rates. Suddenly, the carefree summer rally developed a nasty cough.
The real trouble began when the bond market decided it had swallowed enough government debt for one lifetime.
Borrowing costs rose across the United States, Britain, Europe and Japan. The US ten-year Treasury yield moved towards 4.80%, while Japan’s benchmark yield had already approached 3% – it’s highest since 1996. German, French and British long-term yields also reached multi-year or multi-decade highs.
The message is brutally simple: investors want more compensation for financing governments that continue spending money they haven’t got.
Britain, naturally, managed to make an international problem look particularly uncomfortable. The ten-year gilt yield briefly reached 5.294%, while the thirty-year climbed to around 5.89%, its highest since 1998. Rising debt-servicing costs could reduce the Chancellor’s fiscal headroom from roughly £26 billion to around £14 billion ahead of the autumn Budget.
That is the trouble with political promises: they sound wonderfully generous until the bond market sends the invoice.
Sterling has held reasonably firm near $1.35 but weakened against a resurgent yen as traders anticipated further tightening from the Bank of Japan. The Bank of England is expected to leave Bank Rate unchanged at 3.75% on 17 September. Economists overwhelmingly expect no change before year-end, although futures markets still allow for one quarter-point increase.
The FTSE 100 has gone almost nowhere. It finished last week at 10,831 and remained close to 10,800 on 8 September. Energy companies benefited from dearer crude, but retailers, housebuilders and other interest-rate-sensitive businesses faced a considerably less pleasant environment.
Across the Atlantic, equities weakened as oil and bond yields rose. The Nasdaq has not escaped, because expensive growth shares become harder to justify when government debt offers nearly 5% without requiring investors to forecast semiconductor demand in 2029.
The latest surprise came from the American labour market. August payrolls increased by 162,000 – almost three times the 56,000 consensuses forecast – while unemployment remained at 4.1%. The two-year Treasury yield moved towards 4.38%, and the implied probability of a September Federal Reserve increase rose to approximately 60%.
Good economic news is bad market news again. A resilient economy gives the Federal Reserve fewer reasons to ease policy, particularly when oil is threatening to rekindle inflation.
Crude remains the chief troublemaker. Renewed Middle East tensions, slower movement through the Strait of Hormuz and Houthi attacks on Saudi energy infrastructure pushed Brent above the $100 level and WTI above $94.
Alternative export routes, growing non-OPEC production and weaker demand could eventually restrain prices. Nevertheless, the geopolitical premium is substantial, and one serious supply interruption could remove that cushion remarkably quickly.
Gold has suffered as stronger employment data, a firmer dollar and higher yields encouraged profit-taking. Its longer-term monetary and geopolitical arguments remain intact, but bullion is presently caught between inflation support and the prospect of tighter policy.
Bitcoin followed a similar script. After rallying above $82,000, it retreated towards $76,000 as rate expectations hardened and investors reduced risk. The August recovery remains constructive above roughly $75,000; but should it slip below $72,000, the bulls may discover – yet again – that enthusiasm and invincibility are not the same thing.
Nvidia remains the outstanding corporate story. Quarterly revenue reached $96.2 billion, while management forecast approximately 70% revenue growth for the next fiscal year. AI investment is clearly alive, although elevated bond yields make extravagant valuations increasingly difficult to defend.
Tesla’s figures were less convincing. August sales of China-made vehicles rose 3.6% year-on-year but fell 7.9% from July. Its share of China’s battery-electric market has dropped to 6.6%, from more than 15% in 2020, as domestic competitors continue sharpening their knives.
The bull market may not be finished, but its comfortable conditions are disappearing. Oil is threatening inflation, bonds are demanding discipline and several major central banks are considering tighter policy.
US producer and consumer inflation will provide the next test. Softer numbers could calm bonds and revive equities. Hot readings – particularly with Brent near $100 – could confirm another Federal Reserve increase and drive yields higher.
For now, I would keep exposure controlled, stops sensible and some powder dry. There are still opportunities in energy and selected commodities, (Albeit, my own stops were elected while I was away).
This is no longer a market in which investors can buy everything, close their eyes and expect the central banks to rescue them.
The central banks may be too busy reaching for the interest-rate lever.
Please note the political opinions expressed above are those of the author himself, and do not necessarily reflect the opinions of JP Fund Services AS.
The post The Suntans Are Fading – But inflation Isn’t first appeared on JP Fund Services.
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