Global Markets Weekly Update

U.S.

The major U.S. equity benchmarks declined for the week as investors reacted to hawkish forecasts from the Federal Reserve’s latest meeting and rising U.S. Treasury yields. The S&P 500 Index recorded its largest one-day loss in six months on Thursday on its way to a third-straight losing week.

In addition to concerns about higher interest rates, T. Rowe Price traders noted that worries about the impact of the United Auto Workers’ strike and the potential for a U.S. government shutdown may have also weighed on markets. Meanwhile, selling could have been exacerbated by tax-loss harvesting as fiscal year-end approached for some investors.

Fed surprises with higher-for-longer forecast

As expected, the Fed left its short-term lending benchmark at a target range of 5.25% to 5.50%, the level set at the previous meeting in July, and its updated Summary of Economic Predictions continued to show one more rate hike in 2023. However, policymakers surprised markets with an outlook for rates in 2024 that was notably higher than expected, and their rate prediction for 2025 also increased. In addition, the central bank raised its growth forecast, an acknowledgment that the economy has been more resilient than expected.

Apart from the Fed meeting, it was a relatively light week for economic news. Weekly initial jobless claims came in lower than predicted and fell to the lowest level since January, further reinforcing views that the labor market remains strong.  

U.S. Treasury yields reach multiyear highs

The prospect of the Fed keeping short-term rates higher for longer along with healthy economic growth signals helped send longer-term U.S. Treasury yields higher, with the benchmark 10-year U.S. Treasury yield reaching a 16-year high. (Bond prices and yields move in opposite directions.) Yields on AAA rated municipal bonds moved sharply higher alongside weakness in the Treasury market as investors priced in a higher rate regime.

In the investment-grade corporate bond market, yield premiums relative to Treasuries remained relatively stable despite the risk-off environment in the equity market. Meanwhile, T. Rowe Price traders said that the primary market for high yield bonds remained busy, and more deals are expected amid strong demand for new issues.

Europe

The pan-European STOXX Europe 600 Index ended 1.98% lower as central banks signaled that interest rates will stay high for some time to come. Higher oil prices and poor business activity data also clouded the economic outlook. Major country stock indexes also fell. France’s CAC 40 declined 2.67%, Germany’s DAX lost 2.26%, and Italy’s FTSE MIB slipped 1.13%. The UK’s FTSE 100 was little changed in local currency terms, supported by a depreciation of the UK pound versus the U.S. dollar. A weaker UK currency helps to bolster the index, which includes many multinationals with overseas revenues. 

Eurozone government bond yields increased after European Central Bank (ECB) officials said another interest rate increase could not be ruled out and after the Fed indicated that rates are likely to remain higher for longer. However, the move moderated later in the week after a surprise decision by the Bank of England (BoE) to keep short-term interest rates on hold as well as weak eurozone PMI data. UK gilt yields decreased, with more notable moves at the shorter-maturity end of the yield curve.

BoE keeps rates steady; UK inflation slows faster than expected

The BoE’s Monetary Policy Committee voted 5-4 to keep the key interest rate unchanged at 5.25% as economic growth slows—the first pause since December 2021. BoE Governor Andrew Bailey stressed that borrowing costs could rise again if there is evidence of more persistent inflationary pressures. 

The decision to halt policy tightening came a day after official data showed that annual inflation in the UK slowed to 6.7% in August from 6.8% in July. Measures of underlying inflationary pressures also declined but remained well above the BoE’s 2% target. 

SNB surprises with pause in rate hikes; Sweden’s Riksbank tightens policy

The Swiss National Bank (SNB) defied expectations and kept its key interest rate at 1.75%—the first time it has not hiked since March 2022. The SNB said that more increases are still possible if it becomes clear they are necessary to maintain price stability over the medium term. As expected, Sweden’s Riksbank raised its policy rate by a quarter of a percentage point to 4.00% and kept the door open for another increase in November. 

Eurozone PMI falls for fourth month as new orders drop

Eurozone orders dropped the most in almost three years, causing private sector output to contract for a fourth consecutive month, purchasing manager surveys compiled by S&P Global showed. The seasonally adjusted HCOB Flash Eurozone Composite PMI Output Index, which combines activity in the manufacturing and services sectors, was 47.1 in September, up marginally from 46.7 in August. (A reading below 50 indicates contraction.) Manufacturing continued to shrink the most, while services sector activity decreased for a second month running. 

Japan

Japan’s stock markets fell over the week, with the Nikkei Index down 3.4% and the broader TOPIX declining 2.2%. Sentiment was dampened by the U.S. Federal Reserve signaling that it planned to keep interest rates higher for longer to combat persistent inflation. In contrast, the Bank of Japan (BoJ) matched expectations of no change to its monetary policy, dashing hopes that the central bank would hint at an exit from negative interest rates.

Yen weakens on continued monetary policy divergence

Continued monetary policy divergence between the hawkish Fed and the dovish BoJ weighed on the yen, which weakened to around JPY 148.3 against the U.S. dollar, from about JPY 147.8 the previous week. As speculation about potential intervention in the foreign exchange markets to prop up the yen continued, Finance Minister Shunichi Suzuki said that the government will respond to excessive currency volatility without ruling out any options. In his view, the operations last year to buy yen and sell the U.S. dollar had been effective, to a certain degree.

BoJ retains dovish stance, signals no rush to tighten policy

At its September meeting, as widely anticipated, the BoJ kept its short-term interest rate at -0.1% and that of 10-year Japanese government bond (JGB) yields at around zero percent. It also left unchanged its 50-basis-point allowance band set on either side of the zero percent yield target, as well as sticking to the 1% cap it effectively adopted in July when it tweaked its policy of yield curve control (YCC) to allow yields to rise more freely. The yield on the 10-year JGB trended upward over the week to 0.74% from 0.70%.

The BoJ maintained its pledge to add stimulus without hesitation if needed. It is continuing with monetary easing under the current framework because sustainable and stable inflation, accompanied by wage growth, is not yet in sight. When the central bank is in a position to achieve this goal, it will consider scrapping its YCC policy and modifying the negative interest rate, according to Governor Kazuo Ueda.

Core inflation anticipated to slow

Japan’s core consumer price index (CPI) rose 3.1% year on year in August, slightly ahead of consensus expectations. Core inflation has continued to slow, however, mainly because of the government’s economic measures pushing down energy prices. The BoJ anticipates that the year-on-year rate of increase in the CPI is likely to decelerate, before it is projected to accelerate again moderately, as the output gap (which measures the difference between an economy’s actual and potential output) improves and as medium- to long-term inflation expectations and wage growth rise.

China

Chinese equities rose as investors grew more optimistic about the country’s economic outlook. The Shanghai Composite Index gained 0.47% while the blue chip CSI 300 Index added 0.81%. In Hong Kong, the benchmark Hang Seng Index declined 0.7%, according to FactSet. 

No major indicators were released in China during the week. However, official data for August released the prior week provided evidence of economic stabilization in the country. Industrial production, retail sales, and lending activity rose more than forecast last month from a year earlier, although fixed-asset investment grew less than expected as the drop in property investment worsened.  

State Council pledges support for growth

On Thursday, China's cabinet, the State Council, pledged to accelerate measures to consolidate the country’s recovery and continue supporting growth in 2024, state media reported. Senior officials acknowledged that while China faces economic challenges, historical trends suggest that the economy is set to improve over the long term. In a sign of investors’ concern about the health of China’s economy, China recorded capital outflows of USD 49 billion in August, the largest since December 2015, which pushed the yuan to a 16-year low against the U.S. dollar, according to Bloomberg. In response to the deteriorating growth signals, Beijing issued a flurry of pro-growth measures in recent weeks aimed at stimulating consumption and reviving the moribund property market.

In monetary policy news, Chinese banks left their one- and five-year loan prime rates unchanged after the People’s Bank of China (PBOC) kept its medium-term lending facility rate on hold the prior week, when it also reduced the reserve requirement ratio (i.e., the total amount of cash banks must hold as reserves) for the second time this year. The PBOC’s head of monetary policy, Zou Lan, said the central bank has ample policy room to support China’s recovery, raising expectations that there could be more easing following this month’s pause.

Other Key Markets

Turkiye (Turkey)

On Thursday, the central bank held its regularly scheduled meeting and, as expected, raised its key policy rate, the one-week repo auction rate, from 25.00% to 30.00%. While this is well above the 8.50% level, where it was as recently as May, year-over-year inflation is currently around 60%, so real (inflation-adjusted) interest rates are still well below 0%. 

T. Rowe Price sovereign analyst Peter Botoucharov is encouraged by Turkiye’s return—albeit at a measured pace—to a more orthodox monetary policy stance. To build on this progress, he believes that Turkiye needs the lira to be more stable in the foreign exchange (FX) market. This would reduce the attractiveness of FX-protected bank deposits, reduce the pass-through effects of a weak lira to inflation, and limit the government’s fiscal costs due to increased sovereign debt denominated in non-lira currencies. 

However, Botoucharov notes that there is still the risk that President Erdogan’s unorthodox policy views—for example, he has openly opined in the past that high interest rates cause high inflation—could resurface. Also, Botoucharov acknowledges that there are still extensive macro prudential regulations in place that are not allowing more normal functioning of the local interest rate markets and the FX market.

Peru

Peru’s central bank began a monetary easing cycle on September 14, cutting its key policy rate—the reference rate—from 7.75% to 7.50%. This quarter-point rate cut was in line with broad expectations, though some had expected policymakers to take no action.

According to T. Rowe Price emerging markets sovereign analyst Aaron Gifford, the post-meeting statement continued to highlight declining inflation and inflation expectations, with the central bank’s forecast of inflation reaching its 1% to 3% target range by early next year still intact. With regard to economic growth, central bank officials highlighted that the impact of the El Nino weather phenomenon has been worse than expected, even though some leading indicators are turning up a bit. In terms of forward guidance, policymakers said that their rate cut decision “does not necessarily imply a sequence of interest rate reductions” and that the pace of easing will be data dependent. However, Gifford continues to expect incremental rate cuts until the reference rate reaches a neutral stance—neither stimulative nor restrictive.