July 31 – The last day of the month is also Fed day, with the tech sector showing strong gains overnight amid expectations that the central bank will telegraph a new round of interest rate cuts later today. Even China’s stock market rallied today on expectations that the U.S. central bank would soon begin a round of rate cuts that would finally allow its leaders to increase stimulus programs for the Chinese economy. Yet, all that excitement also comes under a cloud of growing geopolitical risks that have energy prices sharply higher this morning. The VIX is trading near 16 in early trade, while the dollar index is lower near 104.0. Yields on 10-year Treasuries are trading near 4.10%, which is a new four-month low, while yields on 2-year Treasuries are trading near 4.34%, as they make new six-month lows. Crude oil prices are roughly 3% higher on rising geopolitical risks in the Middle East, while the grain and oilseed sector is mixed.
ADP reports that the private sector created just 122,000 jobs in July, down from an upwardly revised 155,000 in June, and below average trade expectations of 154,000. However, that average was a product of a wide range of expectations stretching from as low as 50,000 to as high as 175,000. The government will issue its monthly jobs report on Friday, with analyst expecting it to show that the economy created 180,000 jobs in July, while the unemployment rate remains unchanged at 4.1% and average hourly earnings rise by 0.3%. Other data released this morning indicated that the employment cost index rose 0.9% in the second quarter of this year over the previous quarter, which is down from 1.2% growth in the first quarter, and below analyst expectations of 1.0% growth. That puts the employment cost index up 4.1% year-on-year in the second quarter, down from 4.2% in the first quarter. The bottom line is that wage inflation is still too high, but it is trending in the right direction. This morning’s data reinforced Wall Street’s conviction that the Fed will soon be cutting interest rates, and then doing so repeatedly once it begins to do so in September.
Iran warns that it will retaliate against Israel after Hamas leader Ismail Haniyeh was assassinated in Tehran early this morning. This comes less than 24 hours after Israel claims to have killed Hezbollah commander Fuad Shukr in Beirut. The killings risk pulling Iran into the Middle East war, raising the risk that oil infrastructure could eventually become a casualty of the conflict. The risk of such is still somewhat low, but it is certainly elevated from where it was a couple of days ago, and that’s why the markets are putting some risk premium back into prices this morning. Gains are limited by ongoing economic problems in China that threaten global demand, but today’s focus is on the possible supply risks in the Middle East.
The Bank of Japan took another step today toward phasing out a failed monetary policy plan that Ben Bernanke had patterned U.S. monetary policy after when he was chair of the Federal Reserve. The BOJ raised its short-term interest rate to 0.25% from 0-0.1%, making its largest rate hike since 2007, raising rates to their highest level in 15 years, and ending eight years of negative interest rates. In fact, the BOJ indicated that another rate hike is possible yet this year, as it also committed to cutting its bond buying in half by the first quarter of 2026. The BOJ had been aggressively buying bonds to stimulate growth (quantitative easing) to the point where it now owns roughly half of total Japanese government bonds sold in the market. It must now find a way to unwind its ownership without creating undo upward pressure on interest rates. Not only would that be detrimental to Japan’s economy, but it would likely pull a lot of money home that is currently parked in the U.S. Treasury market, which could put upward pressure on our rates at a time when the supply of government debt certificates is soaring due to our current levels of Congressional spending.
China’s stock market finally rallied today on hopes that the U.S. Federal Reserve will signal an extended round of rate cuts that will finally give China the ability to engage some real and significant stimulus for its economy. It rallied in the face of more discouraging economic data released today. Its official manufacturing purchasing managers index contracted for the third consecutive month in July, which threatens demand for commodities. Factory activity rose to 48.5 from 48.3 the previous month, but that’s still in contraction territory. The non-manufacturing PMI is slightly in expansionary territory at 50.2, but it continues to erode lower. The services subindex weakened to an even 50, while the construction index slid to 51.2. Foreign direct investment in China was down 29.1% year-on-year in the first half of the year, with the pace of decline accelerating late in the time frame. This has been a notable factor in the overall decline in energy and food-based commodities in recent weeks as the market takes on a commodity deflation mantra. That changed for some commodities overnight amid the rising geopolitical risks, considering how low prices are already at currently, leading to some short covering.
