Weekly house view | The hot labour summer

Financial markets showed signs of fragility last week, with stocks and bonds falling after the latest US job market data reinforced expectations of further central bank policy tightening to tame inflation. US Treasury yields rose, with the two-year yield reaching its highest level since 2007 before closing the week at 4.94%. Fed Funds futures pricing suggests another 25 bps hike by the US Federal Reserve later this month is very likely. Macro data last week showed the US is currently a two-speed economy, with sluggish manufacturing output alongside a robust services sector that is underpinned by a tight labour market marked by persistent wage growth. The US economy added the fewest jobs in two and a half years in June, but average hourly earnings rose 0.4% on the month to keep annual wage inflation at 4.4%, running too hot for the Fed’s 2% inflation target. The ISM manufacturing index weakened further into contractionary territory in June, while services strengthened. This week, we will watch US consumer price index (CPI) data on Wednesday, US postal sector wage negotiations with the Teamsters union, and bank earnings.

In Europe, the Dutch coalition failed at the weekend over asylum policy. This may bring some political instability in the EU as Prime Minister Mark Rutte is the EU’s second-longest serving leader. With the world recording a series of record temperatures last week, the Rhine River – a key trade route in Europe – is at its lowest level since 1994 for this time of year. Last summer, the Rhine was so low it was effectively unnavigable. We have bought put options on euro area equities given the uncertain outlook, as low volatility makes them attractive. Q2 earnings pose the next test for markets. In the UK, the Bank of England is struggling to rein in soaring prices and investors have ratcheted up bets that interest rates will rise to their highest in 25 years. In Switzerland, headline inflation surprised to the downside in June, but is set to rise in the coming months on domestic pressures. We expect a final Swiss National Bank rate hike of 25bp in September, bringing the policy rate to 2.0%.

Visiting China, Treasury Secretary Janet Yellen said there is “ample room” for greater US-China trade despite geopolitical tensions between the two countries. China said last Monday it would impose export restrictions on gallium and germanium products, two critical elements for making semiconductor chips – a decision widely seen as retaliation for US curbs on sales of technologies to China. In Japan, the Tankan survey showed business morale improved in the second quarter. Saudi Arabia said it would extend its voluntary oil output cut of one million barrels per day (bpd) for another month to include August, pushing oil prices up on the week.