Asia Warp: Still in the comfort zone

Yields on 10-year Treasuries are holding on to their recent dip ahead of US CPI; the market remains in a comfort zone.

Financial conditions tightened substantially after the FOMC's September meeting. Since then, several FOMC participants, including Vice Chair Jefferson, Governor Waller, and Presidents Logan, Daly, and Kashkari, noted that the recent increase in bond yields could substitute for increases in the federal funds rate. President Bostic continued to argue that the Committee should not increase the federal funds rate any further. These comments strongly signal that the Committee will likely keep the federal funds rate unchanged at its November meeting, consistent with our forecast.

But before taking the next leap of faith, some investors may want to feel more confident about the Fed's next move, where an inline or downward inflation miss in tonight's CPI would do the trick. Indeed, economic data always speaks louder than words, especially when the Fed's fortune-telling is the only thing that is more imprecise than trusting economic data expectations.

Although oil prices initially surged in response to Middle East developments, global oil production has not been impacted thus far. However, the ongoing conflict may weigh on the global oil supply over time by potentially reducing the probability of Saudi-Israeli normalization and posing downside risks to Iranian oil production, which could further lead to the rise of oil prices.

In contrast, the conflict has already started to disrupt the natural gas supply, contributing to a sharp increase in European gas prices, with further risks to the upside due to uncertainty around the duration of the disruption—and likely not an ideal setup for a bullish EURO view.

Regarding currencies, oil exporters like NOK, CAD, and MXN would be the biggest beneficiaries of a positive oil price shock. NOK, MYR, and AUD would be the biggest beneficiaries of a positive natural gas price shock.

In contrast, Asian and European currencies would all be highly vulnerable in either situation and crushed if OiL and Nat Gas  [roces took flight.

While higher for longer is probably here to stay for at least the following year. In that context, elevated rates could still weigh on economies and keep markets relatively flat amid the current wide range.

In the US, the associated tightening in financial conditions may reduce GDP growth next year. Higher rates may also negatively affect growth through a decline in equity valuations, increased federal interest expenses, and a reduction in unprofitable companies. However, these risks alone might not trigger a recession, and the Fed could likely offset much of the impact with rate cuts if necessary. Indeed, they have now. created  ample  policy wiggle room to ease rates and  ensure the economy avoids a recession

In the Euro area, higher rates could affect fiscal policy and, in turn, regional growth. Fiscal policy poses the main risk to European growth normalization, and higher rates raise the risk of a sharper fiscal adjustment, especially in Italy. European sovereign spreads look shaky and could easily widen as the market reassesses fiscal risks, potentially impacting regional equities.

The higher-for-longer rate environment is expected to support the Dollar, although it might enter a "wait-and-see" mode following the recent colossal dollar bid.

The commercial real estate (CRE) market, particularly the office sector, could remain under pressure in this rate environment, posing risks to investors and the potential for a regional banking crisis. Private equity investors may face more significant concerns despite CRE risks being priced into public debt markets. Bank analysts believe the risk to banks from CRE will be manageable due to their limited exposure to higher-risk sectors and substantial capital and reserve positions.