Rate Cuts and Politics: The Final Word from Reuters

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A busy week is ahead with key U.S. inflation data, the onset of third-quarter earnings, a proposed budget in France, and the possibility of a significant rate cut from New Zealand. Investors are also feeling anxious as tensions rise in the Middle East, while Japan’s newly appointed Prime Minister Shigeru Ishiba steps into the spotlight.

1/ ONE YEAR OF CONFLICT

One year has passed since Hamas launched an attack on Israel, and the situation in the region now teeters on the edge of a more extensive conflict that could alter the dynamics of the oil-rich Middle East. The ongoing violence has resulted in more than 42,000 deaths, primarily in Gaza. Israeli forces have extended their operations into neighboring Lebanon, where Hezbollah, backed by Iran, is based. Recently, Iran initiated a large missile assault on Israel.

Despite these developments, global markets have generally remained stable, with oil prices rising about 8% this week. However, weak demand and abundant global supply have tempered these gains. Further escalation between Iran and Israel could result in a significant market shift, particularly if Israel targets Iran’s oil facilities, a possibility that U.S. President Joe Biden mentioned is being considered.

The economic damage from the conflict is evident in Israel, where sovereign credit ratings have declined, default insurance costs have surged, and bond prices have dropped.

2/ A BUSY EARNINGS SEASON

The U.S. third-quarter earnings season is gearing up, putting pressure on a stock market that is nearing record highs and trading at high valuations. Major companies such as JPMorgan Chase, Wells Fargo, and BlackRock are set to release their results on Friday, with earlier reports from PepsiCo and Delta Air Lines. Analysts expect an overall 5.3% increase in Q3 earnings compared to last year.

Additionally, Thursday’s release of the U.S. consumer price index for September is anticipated to provide insights into inflation trends. Investors are bracing for significant rate cuts, following the Federal Reserve’s recent easing policies.

Investors will also be assessing the economic impacts of a dockworker strike as East Coast and Gulf Coast ports resume operations.

3/ FRANCE’S FISCAL OVERHAUL

France’s new government will present its long-awaited budget to parliament on Thursday, aiming for a 60-billion-euro austerity plan equivalent to about 2% of GDP for the upcoming year. The government plans to implement spending cuts and tax increases with a goal of reducing the deficit—projected to rise to 6.1% this year—to 5% by the end of 2025. The target for reaching the euro zone’s 3% deficit threshold has also been postponed to 2029 from 2027.

This comes just ahead of anticipated credit rating reviews, starting with Fitch next Friday. The market’s reaction has not been particularly favorable, as the risk premium for French 10-year debt over German bonds has widened back to just under 80 basis points, close to its highest level since August. There are concerns about whether Prime Minister Michel Barnier can secure passage of the budget in a divided parliament.

4/ NEW ZEALAND’S POLICY SHIFT

New Zealand’s central bank, which has been hesitant to join the global trend of monetary easing, is moving quickly to catch up. A meeting on October 9 could see the Reserve Bank of New Zealand cut rates by half a percentage point, following an earlier cut of 25 basis points to 5.25% in August—earlier than expected.

Market expectations suggest rates may drop below 3% by the end of 2025, though this would still exceed projected rates in the U.S. and euro area. While shorter-term investors are neutral, hedge funds have shown significant interest this year. There’s potential for New Zealand’s currency to benefit from higher rates compared to competitors, especially as carry trades become more prevalent against the yen.

5/ JAPAN’S POLITICAL LANDSCAPE

Following Shigeru Ishiba’s unexpected victory in the Prime Minister contest, investors quickly adjusted their positions for anticipated interest rate hikes. However, in just one week, Ishiba has reversed his stance on monetary policy and softened previous proposals for higher corporate and capital gains taxes.

His shift may not be surprising, considering a snap election is looming on October 27. Nevertheless, Ishiba was straightforward, stating after a meeting with the Bank of Japan that the economy is not ready for additional rate hikes. The yen, which had been strengthening, fell past 147 to a six-week low before rebounding as Japanese stocks recovered from a sharp decline.

Stay tuned for further developments in the coming weeks.

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