The biggest story in financial markets remains the relentless march higher in long-term interest rates worldwide, led by US Treasuries. Last week, however, rates failed to drag the dollar upward with them, and the US currency lost ground against most currencies, despite Friday’s impressive nonfarm payrolls data. The main exceptions were commodity currencies, which suffered amid an oil-led sell-off in commodity prices. The strong payrolls report out of the US poured cold water on the notion that the US economy is slowing down, and markets are again pricing in a 50% chance of an additional Federal Reserve rate hike, further unsettling fixed income markets. The Hamas assault on Israel over the weekend is another source of uncertainty, which will be felt in markets primarily through the oil price and concomitant pressure on inflation. The key question is whether the worst sell-off in US Treasury history will continue, dragging down with it risk assets and pushing the dollar higher. In this context, the US inflation report for September, out on Thursday, takes on added importance. Any signs of continued moderation in inflationary pressures would be very welcome to markets and could result in a significant euro rebound.

GBP

In a data-light week, the pound put in a decent performance, rebounding against both the euro and the dollar after weeks of losses. A lack of major news flow out of the UK in the past week or so ensures that sterling has largely traded off events elsewhere. Last week’s UK construction PMI was a big miss, with the index slumping to its lowest level since May 2020, though the minimal contribution of the sector to Britain’s economy ensures that this was largely overlooked by markets. This week there is a slate of August data on tap, including monthly GDP, industrial production and construction. They should paint a picture of moderate growth. GDP data, in particular, has tended to deliver positive surprises lately, which could work in favour of sterling this week. Signs of resilience here should bring an additional Bank of England interest rate hike into view, which remains less than 50% priced in by markets by year-end at the time of writing.

EUR

The euro’s resilience last week on the fact of ever-higher Treasury yields and dismal Eurozone August retail sales data gives some hope that current levels are already pricing in a fairly negative outcome for the European economy. Retail sales contracted by 1.2% relative to the previous month in August, marking the largest downturn since December. While this data point clearly runs on a bit of a lag, the trend in activity is a troublesome one. This week, the focus should be on the credit data for September, a somewhat-ambiguous but very timely indicator of business activity. Anything sort of the gloomy scenarios currently priced in could give the euro a boost. The latest meeting accounts from the European Central Bank will also be released on Thursday. Communications from ECB members last week were resoundingly dovish, pouring further cold water on the possibility of further monetary tightening. We suspect that the accounts will provide much of the same, and are unlikely to provide much upside for the beleaguered common currency.

USD

The US economy appears to have shrugged off the fastest increase in interest rate in its history, and Treasuries continue to sell-off as markets come to grips with the possibility of 5% rates as far as the eye can see. The key data point last week was the strength in the labour market, which confirmed the positive tone of higher frequency indicators like job openings and weekly jobless claims. Average earnings growth eased, and unemployment unexpectedly remained unchanged, although the net creation number smashed expectations, with the US economy adding a net 336k jobs last month, almost double economist’s estimates. The inflation report for September is up next (Wednesday), and the frayed nerves in bond markets may not react well to an upside surprise. Expectations are, however, for relatively mild numbers, which would confirm the gently downward trend in inflation that the Fed wishes to see.