Markets Strike A Good Old Risk-On Tone

WHERE WE STAND – We got a great example, yesterday, of how the world is changing before our very eyes.

Said example stems from the periodic rebalancing of European equity indices. As part of this process, Rheinmetall has replaced Kering in the blue chip STOXX 50 index. We are in a world that is becoming increasingly volatile, as geopolitical flashpoints increasingly occur. Hence, demand for luxuries is faltering, while demand for safety is surging.

Globally, the direction of travel is towards increasing barriers in the movement of goods, capital, and people, as countries turn inwards, and the environment more insular. These shifts seem secular in nature and, in turn, should result in higher inflation (2% as a floor, not ceiling), as well as higher interest rates (neutral as a floor, not ceiling) moving forwards.

Away from that bigger-picture story, there were a few other noteworthy developments yesterday.

The ‘flash’ eurozone inflation figures will have provided a welcome surprise for the ECB, with headline CPI having fallen to 1.9% YoY, its lowest level since September 2024, while core CPI printed a cycle low 2.3% YoY. Clearly, this cements the already-strong case for a 25bp ECB cut this Thursday, though also raises the likelihood that many more cuts will be needed through the remainder of the year, especially with inflation, already below target, set to undershoot the 2% goal even further in 2026. The EUR OIS curve discounting just 55bp of easing between now and year-end seems too hawkish to me.

Sticking with European monetary policy, we had a deluge of comments from BoE ratesetters yesterday, as the MPC testified to the Treasury Select Committee. Frankly, there was little by way of fresh information here, with both Governor Bailey and Deputy Governor Breeden stressing that a ‘gradual’ approach remains appropriate, and that while the path for rates is lower, the speed of this journey remains uncertain. Clearly, the bar for another Bank Rate cut is a pretty high one, with August my base case for the next 25bp reduction being delivered.

Still, I did think it ironic that external MPC member Catherine Mann spent the hearing extolling the virtues of, and need to send “clear signals” to financial markets. This is, to say the least, rather rich coming from someone who has flip-flopped from uber-hawk, to uber-dove, and back to uber-hawk in just the last six months. Of course, participants of a certain vintage will recall that everything went absolutely swimmingly the last time that we had a super outspoken external MPC member, with outlandish policy views, joining remotely from the US. Here’s hoping history doesn’t repeat itself!

Speaking of the states, yesterday’s figures were a bit of a mixed bag, with factory orders missing, but JOLTS job openings beating expectations, at 7.391mln. This latter figure re-emphasises the inertia that the US labour market continues to experience, aka a ‘no hiring, no firing’ (or ‘slow hiring, slow firing’) situation, especially with the layoffs rate still hovering around 1%.

All of these catalysts, frankly, had little overall impact across financial markets, though in contrast to the dynamic seen to start the week, yesterday brought a distinct, and old-fashioned, risk-on vibe across the board. Stocks rallied on Wall Street, with small caps leading the way (no, that’s not a typo!!), though spoos again stalled just shy of the 6,000 mark. Meanwhile, Treasuries sold-off led by the front-end, which in turn saw the dollar gain ground against all peers, and gold face some headwinds.

My overall biases remain unchanged – long of equities with data solid, earnings strong, and peak trade uncertainty behind us; expecting these long-end yields, with 30s at 5%, to entice dip buyers ahead of Friday’s jobs report; seeing the FX market remain rangebound, with the DXY stuck in a 98-102 band for now; and, lastly, being happy to buy dips in gold, as a bit of protection is still a wise idea in the current environment.

LOOK AHEAD – It’s services PMI day today; admittedly, that sounds a lot more exciting than it is.

Most of the prints are ‘final’ data, that shouldn’t be revised especially much from the ‘flash’ estimates out a fortnight or so ago. That doesn’t go for the US ISM services survey though, with the index set to tick higher to 52.0, from a prior 51.6. The ISM mfg. survey, though, did surprise to the downside earlier this week, which is worth bearing in mind, while the employment sub-index will be closely watched ahead of Friday’s NFP print.

On that note, we also get the latest ADP employment figures today, though that survey continues to bear next-to-no resemblance to the official jobs data, and should be almost entirely ignored.

Elsewhere, the BoC should keep rates on hold this afternoon at 2.75%, given recent hot CPI and solid GDP reports, though the sell-side consensus still favours a 25bp cut. Decent potential, then, for some vol in the loonie, with particular focus falling on the policy guidance. In a similar vein, the Fed’s latest ‘Beige Book’ of anecdotal economic evidence is out tonight, with comments on trade naturally of most interest here.