Nasdaq leads rally as bond yields fall, all eyes on Nvidia earnings

Nasdaq led equity markets higher in morning trade, reversing recent weakness, spurred by a rally in bonds. Traders read a report of stagnant US business activity in August, with weakening activity the service sector and manufacturing contracting, as an indication that the Fed might not hike rates again. All eyes are on AI-stock darling Nvidia due to report results after the market close, as a key indicator for tech stocks.

Bottom-line: risk-on.

TODAY’S MAJOR NEWS

Worsening credit quality and higher borrowing costs

Wall Street is increasingly concerned about rising interest rates, beyond any action by the Federal Reserve. A string of credit rating downgrade, especially the US debt downgrade, flag longer-term problems. For the US, expanding national debt requires an increasing number of buyers for the government debt securities, and it takes higher interest rates to attract those buyers. A credit downgrade also adds upward pressure to those rates.

The problem accelerates as the government has to borrow more money due to the rising interest payments on that debt swallowing up a larger portion of that debt. We’re entering a risky cycle, and one in which rising rates threaten economic activity. This week’s move of yields on 10-year Treasuries to their highest level since October of 2007 focused attention on a mounting debt problem that nobody wants to talk about.

Recession not off the table, a risk which might not be priced into markets

Duke economics professor Campbell Harvey still sees a recession on the horizon. "It's way too early to say this is a false signal," Harvey told Yahoo Finance, reflecting on a call first made earlier this year. Harvey's theory that an inverted yield curve signals a pending economic downturn, is widely followed. He uses difference between the ten year bond yields and three-month bill: this spread turned negative in November 2022, and is now around 1.1%.  Harvey’s research suggests that a recession typically follows the initial yield curve inversion by around a year.

Harvey now predicts a recession starting in early 2024. The market take-aways from this view are interesting: the Fed should stop tightening now, but if inflation data remains strong probably will not; corporate earnings could come under pressure next year, and be worse than projected; and the banks, which have seen failures and with many on credit watch, could see more pain. "The Fed did not stop [raising rates] and this created other stresses, like on the financial system," Harvey told Yahoo Finance. "We've seen that realized in March and I don't think it's the end of the story."

BRICS challenge the G7’s role to lead the world economy

Members of BRICS economic club are meeting in South Africa this week, challenging the G7’s role to lead the world economy. Oil and grain markets could be impacted in the longer-term as the BRICS look to become a self-sufficient trading bloc. Chinese President Xi Jinping has already signed 11 cooperation agreements with South Africa this week, further involving South Africa in its Belt and Road Initiative, and he promised to increase agricultural imports from South Africa, notably corn.

BRICS members will also decide whether to accept Saudi Arabia’s membership application into the group, aligning the kingdom with China and Russia after feeling disrespected by the Biden Administration. The BRICS club would thus cement oil supplies. Argentina applied for membership into BRICS after China offered to help it meet its debt obligations – in Yuan currency of course – in exchange for the supply of agricultural goods. The BRICS is looking like a club worth joining, next stop a unified currency?

TODAY’S MAJOR MARKETS

Equity markets bounce back, led by Nasdaq

• Equity markets ended their losing streak in morning trade, with the Nasdaq up 1.8%, while the S&P 500 and Russell 2000 were up 1.2%
• The KBW Banks index rallied by 1.0%, shrugging off this week’s Bank credit rating downgrades
• Global markets were stronger overnight, led by the FTSE 100 up 0.7%, the Nikkei up 0.7% and the DAX up DAX up 0.2%
• The VIX, Wall Street’s fear index, fell back to 16.1

Bonds rally, yields fall

• Bonds rallied, with 2- and 10-year bonds falling back to 4.96% and 4.22% respectively
• The dollar index was initially strong, touching 104.0, but falling back to 103.4 by lunchtime
• The Yen rallied, up 0.8% versus the dollar, the euro was up 0.2% and Sterling was unchanged

Oil and Silver lead commodity markets

• Crude oil prices fell 0.5%, to $79.25 per barrel
• Gold continued to rally after its recent decline, up 1.1% to $1,949 per ounce, while Silver rose 3.9% to $24.4 per ounce

• Grain and oilseed prices moved higher

Analysis by Arlan Suderman, Chief Commodities Economist: [email protected] 

Market outlook by Paul Walton, Financial Writer: [email protected]