BOJ Raises Rates

MACRO FRAME

The Federal Reserve raised the federal funds target range by 25 basis points to 3.75%–4.00%, its first increase since 2023, and signaled that another hike is likely before year-end. Warsh’s central message was that underlying inflation has not improved enough to justify patience.

STOCK INDEX FUTURES

Equity index futures were mixed overnight, with the Nasdaq leading gains as oil prices continued to fall for a third-straight day. No major data releases out today, though today marks a quadruple witching (quarterly simultaneous expiration of stock options, stock index options, and stock index futures), which could drive some modest volatility late in the session. For the equities, Thursday’s session brought a clear shift in momentum in what has otherwise been a weak September. The bull camp faces its test at the ES pivot of 7,682: holding above it keeps Thursday’s reversal intact, and a close above R1 at 7,747 would confirm the market is willing to pay up for growth even with a second hike priced this year. The NQ pivot at 29,595 is the cleaner tell given tech is doing all the work, a failure back through S1 at 29,396 would argue the chip-stock recovery from the Anthropic/OpenAI AI-slowdown scare is not yet trusted.

Watch point: Despite tech volatility, the earnings backdrop suggests bullishness, despite the advent of a new hiking cycle.

CURRENCIES

US DOLLAR: The USD index was higher overnight, continuing to hold its break above the 100 level at 100.50 as traders continue to add to bets of an additional rate hike before year-end, while the Bank of Japan’s rate hike and guidance was unconvincing to investors, giving the dollar a further edge. The lack of hawkishness from the BOJ comes from two policymakers dissenting against the outcome and an underwhelming press conference from Governor Ueda, which lacked explicitly hawkish guidance. Money markets are priced for 34 bps of tightening by year-end. For the dollar, now that the immediate near-term downside risk from the BOJ is gone, oil prices will play a greater role in price action for the session.

Watch point: A reduction in tightening expectations for the Fed will act as the greatest risk to the dollar maintain its move above the 100 level.

EURO: The euro is 0.12% lower at $1.1462, nearing a two-month low as dollar strength pressures the currency. Inflation expectations in the eurozone for the next 12 months rose to 3% in August from 2.9%, per new data overnight. Higher inflation expectations were centered around the increase in energy prices, though the figures remain modest in comparison to responses recorded at the onset of hostilities between the US and Iran. Elsewhere, German PPI inflation rose to a 3-year high at 4.6% YoY, mainly driven by the increase in energy prices and basic materials. While money markets expect the ECB to hike more than the Fed in the next 12 months, pricing in 86 bps of tightening vs. 79 bps, the difference is marginal and the renewed hawkish expectations about the Fed have favored the dollar despite the spread of implicit policy rates otherwise being in favor of the EUR.

Watch point: Broader price direction will be subject to Fed-ECB policy expectations, which has been favorable to the dollar in advent of a hawkish repricing in Fed policy expectations the near-term.

BRITISH POUND: Sterling is 0.15% lower at $1.3335. Retail sales unexpectedly rose 0.5% MoM in August against expectations of a 0.2% drop, data that could move the Bank of England in favor of hiking rates later in the year. The bank did flag that inflation will rise above 4% early next year, while Governor Bailey has warned that prolonged conflict in the Middle East could warrant tighter policy. The bank voted 6-3 in favor of the hold, while minutes revealed that wage-setting pressures have not yet increased. Money markets are fully priced for a hike by year-end and are pricing 87 bps of tightening by April of 2027. Still, with the BoE on hold for the time being, sterling has little of its own to lean against this week and is trading largely as a pure dollar-strength story.

JAPANESE YEN: The yen is 1.2% weaker at 157.81 yen per dollar as the BOJ underwhelmed the investors following its divided decision to raise rates and Governor Ueda’s unconvincing press conference. Ueda said that underlying inflation is approaching 2%, and that the bank’s focus has shifted to guard against an inflation overshoot. Ueda also noted that he would not rule out either back-to-back hikes or 50 bp increases. Still, investor attention around the two dissents has lead markets to ditch the yen, as it likely triggered traders to cover long positions. Still, the two dissents come from new, Taikaichi-appointed members, who were seen as being added to the board to influence policy in her favor.

Watch point: While markets are underwhelmed at the BOJ, a path for additional rate hikes looks to be  appears to be the primary scenario.

AUSTRALIAN DOLLAR: The Aussie is little changed at $0.7115, as stronger risk appetite from lower oil prices helps support the currency despite broad-based dollar strength. The RBA left its cash rate at 4.35% at its August 12 meeting, by its own account a straight hold-versus-hike debate, not a cut discussion, after June labor data showed a still-robust market (employment +76,300, unemployment 4.4%, participation up to 67.0%), consistent with a cautious, higher-for-longer stance. The RBA’s next decision isn’t until September 28–29, so AUD is essentially a dollar/risk-sentiment proxy until further data is released. Q3 inflation figures will continue to serve an outsized role in determining RBA policy and given that the September policy meeting is a month before the release, policymakers could wait until that data arrives before making any decisions.

Watch point: August’s hiring figures argue for a higher-for-longer stance, leading the focus to Q3’s inflation data.

TREASURY FUTURES

Yields moved higher across the curve in a flattening move. The key curve question is whether the post-meeting move remains a relatively orderly flattening or develops into renewed bear steepening. Another sharp long-end selloff would be problematic and point to continued pressure from inflation risk, fiscal and corporate supply, capital competition and term premium. Those dynamics are likely to remain the key factors in shaping long-term yield direction. Today, yields are moving against the direction of oil prices, likely following the direction of JGB yields after the BOJ raised rates to a 31-year high and signaling a new effort in combatting inflation. The potential new tightening cycles from the Fed and BOJ argue for elevated near-term rates and a new fight against inflation, which should help keep inflation expectations anchored and leave further room for term-premium and corporate debt supply to determine price direction.

There are several takeaways to support the idea of a renewed hawkish Fed following the meeting: it saw a unanimous 12-0 vote, which has been unusual as of late, the dot-plot showed that most FOMC members expect to hike at least once more this year, Warsh framed the hike as part of the bank’s discipline and mentioned removing some accommodation to markets, and lastly that Warsh repeatedly framed the economy as stronger than expected. All else equal, these are conditions that support further tightening. The monetary policy statement supports this interpretation by dropping July’s language attributing elevated inflation partly to sector-specific supply shocks, including energy. It instead said simply that inflation remains elevated and that the rate increase would support a timelier return to the 2% target, signaling that policymakers now view inflation as broader and more persistent than an isolated supply disturbance.

Watch point: Inflation risk, fiscal and corporate supply, capital competition and term premium will be key factors in determining whether the yield curve maintains its recent flattening or falls into a bear steeping move.

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