Attack on Saudi Aramco brings volatility to oil markets. “The Week in Review.”
Last Week Review
The Federal Reserve intervenes to stabilize rising money market rates. Overnight interest rates increased over the Fed funds rate upper bound as a combination of issues around a Treasury coupon1 settlement and corporations using cash to pay their tax bills, which led to a supply-demand imbalance. The Fed is remedying this imbalance by providing liquidity through overnight repo contracts at least through quarter end, buying time for a more permanent solution (likely involving balance sheet expansion). Importantly, this is a technical issue – not a systemic risk issue2. Shifting to equities, better-than-expected economic data was offset by trade, growth, and monetary policy uncertainty to lead to a global equity return of -0.4%3.
Federal Reserve cuts rates to the 1.75% to 2.0% range. In the second 25 basis point (BPS)4 interest rate cut of 2019, Federal Reserve officials moved the policy rate to the 1.75% - 2% channel. The decision was split among officials and the dot plot following the meeting showed Fed leaders expect no changes to the Fed funds rate in 2019 or 2020. Using similar language from the July meeting, Fed Chairman Jerome Powell explained that the U.S. economy remains on solid footing, but weakening economic growth, trade uncertainty and low inflation, led to the decision to cut rates. Powell did not rule out future cuts and avoided any statements that upset investors. Following Wednesday’s meeting, Fed funds futures dropped slightly, leaving a 18% probability of at least two cuts by year-end and a 49% probability of one more cut in 20195.
Attack on Saudi Aramco brings volatility to oil markets. The drone attacks on Saudi Arabia’s oil facilities over the prior weekend, halted about half of its oil production leading to sharp moves in oil prices. Crude oil markets responded last Monday jumping almost 15% before an optimistic timeline on restoration of the lost production brought prices down in the following days. The attack represents the largest one-time oil supply disruption in history6. The developments also come at a crucial time for Saudi Arabia as it looks to raise investor interest in a future Initial Public Offering (IPO) of its Saudi Aramco oil company7.
Central banks of England and Japan stay on hold. Last Thursday, the Bank of England (BOE) voted unanimously to hold its main policy rate at 0.75%. Investors received the monetary policy committee’s statement as a dovish shift where the bank would look to cut rates in future meetings if Brexit uncertainty persisted. BOE leaders also stated that a smooth Brexit would lead to gradual interest rate increases6. The Bank of Japan (BOJ) kept the main policy rate at -0.1% but Governor Haruhiko Kuroda said the central bank has more room for stimulus, comparing Japan’s rate to Europe. Low inflation and a sales tax hike in October may lead to the BOJ to consider a future rate cut8.
This Week Preview
Flash manufacturing PMI data expected to modestly improve in Europe. Investors will keep a close watch on this week’s flash Purchasing Managers’ Index (PMI) data following central bank concerns on the growth environment, particularly weakness in the manufacturing sector. Initial surveys show a small uptick in the U.S. while Europe and Germany are expected to modestly improve but still remain in contractionary territory (below 50). Services PMI readings are expected to decrease in Europe and Germany but maintain a cushion above the dividing line of 50. The U.S. flirted closer to the 50 dividing line in August but consensus expectations call for an improvement to 51.5 in September.
August core PCE inflation expected to move higher. Core Personal Consumption Expenditures (PCE), the Fed’s preferred inflation measure, will be released this Friday. Economists expect a 1.8% year-over-year (y/y) reading compared to the prior 1.6% y/y, though consensus estimates have tended to overshoot the actual data point by about 0.1% over the last year.
Mixed sentiment readings expected across the U.S. and Germany. A few sentiment gauges will be released this week in the U.S. and Germany. Business sentiment is expected to improve slightly in Germany, while consumer sentiment is expected to tick down in Germany and decrease modestly in the U.S9.
Unless otherwise noted, all opinions expressed in this post are those of the author and do not necessarily represent the views of Northern Trust. Information contained herein is current as of the date appearing only and is subject to change without notice.
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- 1. Treasury Coupon: The coupon rate is fixed at the time of issuance and is paid every six months. Other Treasury securities, such as Treasury bills (which have maturities of one year or less) or zero-coupon bonds, do not pay a regular coupon.
- 2. Bloomberg, Fed Funds Futures Index 23Sep2019. Fed funds futures are used by banks and fixed-income portfolio managers to hedge against fluctuations in the short-term interest rate market. They are also a common tool traders use to take speculative positions on future Federal Reserve monetary policy.
- 3. Bloomberg, MSCI World Index returns 16Sep2019 – 20Sep2019. Federal Open Market Committee. (September 18, 2019). Chairman Powell’s Press Conference [Interview transcript]. Retrieved on 23Sep2019 from https://www.federalreserve.gov/mediacenter/files/FOMCpresconf20190918.pdf
- 4. Basis Points: (BPS) refers to a common unit of measure for interest rates and other percentages in finance. One basis point is equal to 1/100th of 1%, or 0.01%, or 0.0001, and is used to denote the percentage change in a financial instrument.
- 5. Kearney, Laila. Reuters. Oil jumps nearly 15% in record trading after attack on Saudi facilities. Retrieved on 23Sep2019 from https://www.reuters.com/article/us-global-oil/oil-prices-soar-10-after-attack-on-saudi-facilities-hits-global-supply-idUSKBN1W00UG.
- 6. Said, Summer. Jones, Rory. Faucon, Benoit. Wall Street Journal. Saudi Officials Consider Delaying Aramco IPO After Attacks. Retrieved on 23Sep2019 from https://www.wsj.com/articles/attack-increases-risks-for-saudi-aramcos-ipo-11568621756.
- 7. Meredith, Sam. Bank of England holds rates, warns another Brexit delay could hurt economic growth. CNBC. Retrieved on 23Sep2019 from https://www.cnbc.com/2019/09/19/bank-of-england-holds-interest-rates-amid-intensifying-brexit-uncertainty.html.
- 8. Japan Inflation Hits 2- Year Low as BOJ Calls for Price Review. Investing.com. Retrieved on 23Sep2019 from https://www.investing.com/news/economy/japan-inflation-hits-2year-low-as-boj-calls-for-price-review-1982357.
- 9. Hajric, Vildana. Ponczek, Sarah. Bloomberg. U.S. Stocks End Mixed as Dollar, Bonds Decline: Markets Wrap. Retrieved on 23Sep2019 from https://www.bloomberg.com/news/articles/2019-09-12/asia-stock-futures-edge-higher-treasuries-slip-markets-wrap.