From Hezbollah To "He's Bullish"
By Michael Every of Rabobank
"He's bullish".... Hezbollah
The first market focus today is naturally the BOJ, and the second is the Fed. In both cases, the hope is that when the Governor/Fed Chair stop speaking, we will all be able to say, “he’s bullish”. Yet both central bankers will be talking as everyone in the Middle East, and those paying attention to it, will be saying, “Hezbollah.” It’s far from clear if that is bullish.
The market is pricing out the odds of a large --15bp-- BOJ rate hike at this meeting, and this morning NHK is floating that a 10bp hike could come even though the consensus is no change. Given other central banks are leaning towards easing, or already are, one wonders if this is going to be the cycle peak anyway. In which case, one also has to wonder what the ceiling is on USD/JPY: it was back below 155 at time of writing. That will presumably depend on where the Fed stops easing.
As our Fed watcher Philip Marey makes clear in his FOMC preview, today’s meeting will open the door for the September cut he’s been calling for months, and one more in December. The Fed will also be able to squeeze in two more cuts in H1-2025. But then, based on poll tracking (not just one Bloomberg poll today) he assumes a Trump presidency and the introduction of tariffs; and the return of inflation. As such, the Fed will call a halt to cuts at a floor of 4.5%. Which, for keen market observers, is a lot higher than in Japan.
Meanwhile, Israel retaliated for the death of 12 children in Majdal Shams at the hands of Hezbollah by assassinating its number 2 and top military commander, Fuad Shukr, in Beirut - he had a $5m bounty on his head from the US for his past role in attacks on American forces. In military terms, this was a precise hit (with civilian casualties and injuries) rather than an assault on the Lebanese capital or a ground invasion. With it, Israel is attempting to show there’s a higher price for attacks on it to reassert deterrence, allowing tens of thousands of Israelis to return to border communities abandoned due to strikes from Lebanon. Israel also says it doesn’t seek war but is prepared for one.
The question now is how Hezbollah will respond to Beirut being hit, seen as a red line, and the killing of its number 2, a major blow. If it makes token retaliation, with no casualties, the region and markets can relax. Yet if it makes a large-scale move against Israel, or Jewish targets internationally, especially with further deaths, then Israel will move further up the escalation ladder, dragging Hezbollah behind it. Then there is less room to relax.
It’s important to recall that this is not about Israel vs. Hezbollah but rather Israel vs. Iran. At the inauguration ceremony for new president Pezeshkian, Iran just hosted senior leaders from the ‘Axis of Resistance’: Hezbollah, Hamas, Palestinian Islamic Jihad, and the Houthis, and we’ve already seen one round of direct --limited-- Iran-Israel strikes. Were we to see Israel-Hezbollah escalation, the fat-tail risk would be that either Iran supports the latter, or Israel strikes the former again. In either case, the Middle East would be dragged towards the regional war we flagged immediately after 2023’s October 7 Hamas attack.
Even worse, Iran is a member of the ‘Axis of Upheaval’ (Russia-China-Iran-North Korea), which wants to heave the aside on the world stage while upping their own global role. The fattest tail risk is therefore of something closer to Ukraine, where multiple parties/blocs get sucked into a conflict – only this time involving world energy centres, not grain centres.
Such an event would impact on economies, markets, and every central bank. Of course, if your job is to focus on the BOJ, Fed, or the BOE, there’s little or no room or time to write about things which fall well outside the realm of economics, vs. the balance of data that’s the usual driver of monetary policy. But that doesn’t stop the above being true.
Within the realm of economics, today’s Chinese PMI data were a non-event with manufacturing at 49.4 vs. 49.5 last month, and services at 50.2 vs. 50.3 expected.
Market-moving were Aussie retail sales at 0.5% m-o-m vs. 0.2% expected, and Q2 CPI weaker than seen at 1.0% q-o-q, in line with consensus, but 0.8% on a trimmed mean and a weighted median, both vs. 1.0% consensus. The reaction was a huge drop in Aussie bond yields across the curve, with a steepening tone. AUD tumbled in tandem.
The problem here is not anything Middle Eastern, which in far-away Australia means hummus with the barbie, but that these prints don’t imply inflation returns to 2%. Indeed, year-on-year CPI was 3.8%, the trimmed mean 3.9%, and the weighted median 4.1%. Goods inflation was 1.7% q-o-q after two previous negative prints, while services inflation was admittedly more positive at 0.7% vs. 1.5% prior. However, Australia still has a labour market showing bumper jobs growth, and a housing market not just on drugs, but so high up the drugs pyramid that it has smaller housing markets out on the streets doing the pushing and hustling for it while it sits next to the pool drinking cocktails. Which, substituting drugs for houses, is the Australian dream. Both of those trends are inflationary, especially in services, regardless of what today’s data show.
Regardless, the market reaction says the next RBA move is expected to be a cut, not a hike, which can’t be ignored. Our Australia/New Zealand strategist Ben Picton had a 25bp hike penciled in for August. The Reserve Bank admittedly had a high bar for further tightening given their ‘tolerance’ (a euphemism) for high house price inflation and intolerance for the slightest house price deflation: these CPI data are the get-out-of-jail-free card they needed to avoid putting a spike in housing spruikers. Ben now sees the RBA on hold as they wait and see. Unfortunately, however, if you don’t move when you should, at some point it comes back to hit you harder, in both monetary policy and geopolitics. Aussie bonds may rally, but that doesn’t mean “he’s bullish”.
Or Hezbollah.