Probability of 50bp Fed rate cut declines after strong jobs report

In focus today

Today, 7 October marks one year since Hamas' terrorist attack that started the ongoing conflict in Middle East. On the eve of the day of memorial, Israel expanded its attacks both in Lebanon and Gaza and the threat of a full-blown regional war hangs in the air.

In the euro area, we receive the Sentix investor confidence indicator, which will give the first indication of sentiment in October. Also, the August retail sales will shed light on consumer spending, which is key for the growth outlook.

In Germany, the August factory orders will give a hint of where we can expect the industrial production figure tomorrow to land.

Early Tuesday, we get total cash earnings in Japan for August. Real earnings growth turned positive over the summer, a prerequisite for fuelling private spending. The Bank of Japan needs the trend to continue in order to normalise policies further.

Later Tuesday, we get the NFIB's small business optimism index. Early Wednesday, the Reserve Bank of New Zealand announce its cash rate decision. Wednesday evening minutes from the Fed September meeting is released. On Thursday we get September CPI from the US, the main release of the week, and on Friday, US October consumer sentiment survey from University of Michigan is due for release.

Economic and market news

What happened over the weekend

In the Middle East, on the eve of Monday 7 October that marks one year since Hamas' terrorist attack, Israel expanded their operations both in Gaza and Lebanon. A Hezbollah rocket launch got past Israel's defence system in Haifa. Meanwhile, Iran has cancelled some overnight flights, apparently in the fear of Israel's response to Tuesday's missile barrage. An Israeli attack on a military target would be comparable to what happened in April, and in the best case, would open the door for Iran to restraining from retaliatory measures. An Israeli attack on Iran's oil facilities would mark an escalation. Iran's oil exports represent approximately 2% of global supply, and while oil market would likely react, any impact should be relatively short-lived as long as other OPEC members would be willing to increase production. Most of the spare capacity is in Saudi Arabia and the country has already showed readiness to step up production.

ECB's villeroy, spoke about monetary policy in an interview and stated that he thinks that ECB will lower rates again at the October meeting. He stated that the main risk has changed from overshooting inflation to undershooting due to weak growth if monetary policy is kept restrictive for too long. On Friday, ECB's Centeno, who is a well-known dove, pointed out that the European labour market is starting to cool, and that he thinks that inflation is under control, which sounds like he is ready for more rate cuts. Next ECB meeting is on 17 October, where we expect ECB to deliver another 25bp rate cut.

What happened on Friday

In the US, the jobs report was much stronger than expected. Change in non-farm payrolls came in 254k (Danske forecast: 160k, consensus: 150k, prior 142k). Average hourly earnings increased by 0.4% m/m seasonally adjusted (Danske forecast: 0.2%, consensus: 0.3%, prior: 0.4%). The unemployment rate dropped to 4.1% (Danske forecast: 4.2%, consensus: 4.2%, prior: 4.2%. 2y UST yields surged more than 20bp while 10y UST yields traded more than 10bp higher. EUR/USD fell below 1.10 mark and ended Friday at 1.098. Markets pulled back from speculating in another 50bp cut from the Fed and are now very closely aligned with our call for both 2024 and 2025 in terms of Fed pricing.

In the UK, BoE chief economist Pill (who was one of the dissenters in August, voting for unchanged in a 5-4 vote) delivered hawkish remarks saying that he felt that August was too early to start cutting rates and stressed that BoE should continue a gradual approach with further rate cuts. He also stated that it will be important to guard against the risk of cutting rates either too far or too fast.

Oil prices ended the week at the highest level since late August with the price of Brent Crude oil just above 78 USD/barrel. It was the highest weekly gain in nearly a year starting the week at around 74.4 USD/barrel. The main driver behind the higher prices has been the increased geopolitical tensions in the Middle East with Israel making it clear they will strike Iran after the country launched a missile attack on Israel last Tuesday. Prices rose further at the end of the week after US president Biden confirmed that the US had talks with Israel about backing an attack on Iranian energy infrastructure.

Equities: Global equities were sharply higher on Friday, with all regions posting gains and the US leading the advances due to their weight and the influence of the NFP. However, the uplift was not broad-based across sectors, as the bond markets reacted more than equities, sending the short end of the curve massively higher. Consequently, most defensive sectors underperformed while banks emerged as the big winners, benefiting from reduced recession fears and higher yields. Notably, small caps also outperformed despite the rise in yields and the underperformance of REITs. The key takeaway here is that investors are currently more concerned about a weakening job market than a reacceleration in inflation. Both factors could lead to a worsening outlook, particularly for Commercial Real Estate (CRE), but Friday's developments provided more support to the soft-landing scenario and hence to small caps. In the US on Friday, the indices reported gains with Dow +0.8%, S&P 500 +0.9%, Nasdaq +1.2%, and Russell 2000 +1.5%. Asian markets are broadly higher this morning, led by Japan as the yen continues to weaken. US futures are flat this morning, while European futures are higher.

FI: Global yields repriced significantly following the strong US labour market report on Friday. The 254k NFP number, plus upward revisions of the previous two months sent yields higher from the front as markets reassessed the probability of a 50bp rate cut in November in the US. Markets priced SOFR rates 10bp higher to 25bp rate cuts priced.

FX: EUR/USD declined below 1.10 following Friday's very strong NFP print of 254k, making it the biggest weekly rally for the USD in about two years. With global yields moving higher and comments to the hawkish side from the BoE, EUR/GBP reversed its recent move higher firmly back below 0.84. On the contrary, the SEK did not approve of last week's market sentiment and EUR/SEK shifted back up to its previous range of 11.30-11.40, currently edging close to the upper end.