From Wednesday (July 31st) to early Thursday (August 1st) Beijing time, the Bank of Japan, the Federal Reserve, and the Bank of England will successively announce their latest interest rate decisions within 32 hours.
With the recent alternation of various factors in the market, policies and economic growth prospects are also uncertain. Last week, multiple markets around the world closed in a tense state, and global investors are urgently hoping to obtain clues about the path of global monetary policy from interest rate decisions.
Bloomberg macro strategist Cameron Crise said, "The recent market turbulence has triggered a narrative reversal from stocks to fixed income, and then to multiple other market holdings. The risk is that in some ways, this time is really different from what we have experienced before
Bank of Japan: Rare Uncertainty
Compared to previous one-sided expectations that the Bank of Japan would remain inactive or raise interest rates, this week's interest rate decision has made the market more uneasy due to high uncertainty.
Since mid June, Bank of Japan Governor Kazuo Ueda has never publicly discussed monetary policy, which is his longest period of silence before policy meetings, making it more difficult for the market to predict interest rate decisions. Previously, Kazuo Ueda had stated that "policy interest rates are likely to continue to rise, but ultimately depend on data and information on the economy, inflation, and financial conditions." Some Bank of Japan officials are open to the idea of raising interest rates this month because inflation is roughly in line with forecasts. Another group of officials believe that they can choose to remain inactive until more data proves the recovery of consumer spending.
The survey shows that although only about 30% of Bank of Japan observers consider another interest rate hike as the basic scenario for this week's interest rate decision, almost no respondents rule out this possibility. According to the latest pricing in the swap market on Monday (July 29th), investors expect the possibility of the Bank of Japan raising interest rates by 15 basis points by July 31st to rise from 25% a week ago to about 50%. Options traders' bets on the Bank of Japan raising interest rates this week rose from below 40% to nearly 90% last week, and then fluctuated between the two, highlighting the uncertainty of this interest rate decision.
This high level of uncertainty has led to roller coaster like fluctuations in the Japanese yen and stock markets recently, which are expected to continue until this week's interest rate decision is announced. Ko Nakayama, former official of the Bank of Japan and current Chief Economist of Okayama Securities, said, "This week has been a difficult decision for the Bank of Japan. Raising interest rates will make it clear that the Bank of Japan has a strong desire to normalize its policies, and it can also enable the bank to take preemptive action against the backdrop of not needing to act hastily." Overseas Chinese Bank analyst Selena Ling also believes that the Bank of Japan has a macro background conducive to tightening policies, and recent data shows that Japan's inflation wage cycle is in a virtuous cycle, so inflation will continue to remain at the target level. Based on this, the Bank of Japan may raise interest rates by 10 basis points.
Another focus of this meeting will be on the specific details of the plan to reduce the scale of bond purchases. Some analysts suggest that the Bank of Japan does not want the reduction in bond purchases to startle the market, but rather hopes that investors can clearly anticipate the outcome. Based on this, the market generally believes that the Bank of Japan's plan will follow the current market expectation, which is to reduce the monthly bond purchase scale from the current 6 trillion yen to 5 trillion yen (32 billion US dollars) starting next month, and ultimately halve it within two years. It is worth mentioning that in the eyes of market participants who expect the Bank of Japan not to raise interest rates again this week, reducing the scale of bond purchases is an important reason. They analyzed that for an economy that has not shown significant growth in the past three quarters ending in March this year, the initial QT step, if combined with interest rate hikes, may mean excessive tightening.
For the market trend after the conference, investors are still most concerned about the Japanese yen. After suspected foreign exchange intervention in Japan earlier this month, coupled with expectations of interest rate hikes, the yen's short positions were heavily liquidated, causing the yen to rise from a 38 year low to its highest level in over two months against the US dollar within a month. The Japanese yen is currently at a turning point, which may continue the significant rebound trend of this month or fall back to decades old lows. Especially just a few hours after the Bank of Japan's meeting, the Federal Reserve will also announce its interest rate decision and release signals on future policy direction, which may amplify the volatility of the Japanese yen and Japanese stocks during the Asia Pacific trading session on Thursday (August 1). Daisuke Karakama, Chief Market Economist of Mizuho Bank, stated that this meeting is an appropriate time for the Bank of Japan to raise interest rates, as given the recent rise in the yen, the bank can say that the rate hike is not related to exchange rate pressure. He also added, 'This could be a critical moment for the yen to shift from its long-term weakness trend.' Charu Chanana, head of foreign exchange strategy at Shengbao Capital Markets, believes that:; quot; Despite the significant two-way risk, I still lean towards bearish on the Japanese yen. For an essentially dovish central bank, adjusting its bond buying program and raising interest rates at the same time seems to be an excessive expectation.
Federal Reserve: September interest rate cut signal receives more attention
For the Federal Reserve, investors are more concerned about the signal of the September interest rate cut than the rate decision itself.
The most important indicator of the Federal Reserve, the Core Personal Consumption Expenditure (PCE) index (excluding volatile food and energy prices), released last Friday, showed that inflation in the United States rose by 2.6% year-on-year in June. Although higher than economists' expectations, it remained the same as last month, recording the slowest year-on-year growth in the index in over three years. Luke Tilley, Chief Economist of Wilmington Trust, said, "This reinforces expectations of the Fed's first rate cut in September." Ernst&Young Chief Economist Dako added, "We expect Fed officials to engage in a long and intense debate about whether and how to signal a September rate cut." He believes that the Fed currently has the conditions to begin cutting rates, and "some policymakers may even think, like us, that a July rate cut is desirable given the current and expected economic conditions
Tilly also agrees with recent data supporting a rate cut in July, but he emphasizes that the Federal Reserve may still not want to "scare the market". He said that given the widespread expectation in the market that the Federal Reserve will hold its ground in July and then cut interest rates in September, if it were advanced to July, "the market would think, 'The Federal Reserve definitely knows something, and we don't know,' which would have a negative impact. Therefore, the Federal Reserve is expected to remain on hold and signal a rate cut in September
In the view of James Knightley, Chief International Economist of Dutch International Group, "The upcoming FOMC meeting will lay the foundation for a rate cut in September, and the Federal Reserve will shift its policy from restrictive areas to a more neutral stance
In fact, recently, both the US bond and stock markets have returned to the "interest rate cut trading". The Bloomberg US Government Debt Index hit a two-year high this month. By the end of July, US treasury bond bonds will have risen for the third consecutive month. The last time this happened was in the middle of 2021. The yield spread between 2-year and 10-year US Treasury bonds has also significantly narrowed, falling to a nine month low of 14 basis points last week. The US stock market has also started sector rotation, with cyclical and small cap stocks making up gains and technology stocks experiencing a pullback. Albert Edwards, a Wall Street veteran who experienced the Internet foam and the 1987 crash, and a well-known strategist of Societe Generale, warned in the latest research paper that investors "need to be highly alert to the possibility of a full bursting of the foam in technology stocks". The technology sector currently accounts for approximately 35% of the total market value of the S&P 500 index, with the "Big Seven" accounting for as much as 30%.
Bank of England: First rate cut on the horizon
The market is divided on whether the Bank of England will cut interest rates for the first time since the pandemic on Thursday, August 1st. Since the July election, three hawkish members of the Bank of England's Monetary Policy Committee have presented reasons against loose policies, while only one of the two dovish members has put forward opposing views. Last Friday, swap trades showed a probability of about 50% for the Bank of England to cut interest rates by 25 basis points this week, with an expected cumulative two rate cuts within the year.
Although the inflation rate in the UK has dropped from double digits a year ago to the target level of 2%, and the unemployment rate is also on the rise, service industry price growth remains strong, and the economy has rebounded from a small-scale recession. The minimum wage increased by 10% in April, and the New Labour government plans to raise the minimum wage while providing wages above inflation for up to 5 million public sector workers, which poses a risk of rising prices. Orla Garvey, Senior Fixed Income Portfolio Manager at Federated Hermes, stated:; quot; This is an important week, and the meeting of the Bank of England on August 1st is very real-time, and the latest forecast will be released& amp;quot;
In any case, this decision will affect the trend of sterling and British treasury bond bonds. Garvey stated that a rate cut will boost UK government bonds. Previously, after the Labour Party won the election overwhelmingly, expectations of monetary easing and hopes for political stability have boosted UK debt. The yield of two-year British treasury bond bonds is currently at the lowest level in more than a year.
For the pound, a rate cut is not as advantageous as it would reduce some of its attractiveness as a carry trade. The pound is the best performing currency among the Group of 10 (G10) this year, and after recently hitting a high of over a year, the market's bullish bets on the pound have also reached historic highs. In addition to JPMorgan and Goldman Sachs, which had previously been bullish on the pound, Amundi, the largest asset management company in Europe, also joined the crowded trading of bullish on the pound last week. Andreas Koenig, the global head of foreign exchange at the company, said, "The UK economic environment has improved, the government is relatively stable, and there are many reasons to support the pound." His target for the pound is to reach $1.35 by the end of the year, which is an additional 5% increase from the current level.