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The week-long build up to Powell's Jackson Hole speech will come to an end at 1400 GMT. There was some trepidation in risk assets on Thursday ahead of the speech as the market gets laser focused on taper talk. We break down what to watch for. All major currencies have gained back ground vs USD with the exception of JPY. Keep an eye for the release of US core PCE price index in less 30 mins from now. Exp 3.5% from 3.6%.

One thing is certian: Powell's address will not be a game-changer. This speech is wildly overhyped because nothing else is happening and because the market has aggrandized the Bernanke-era taper tantrum.

None of the underlying fundamentals of the market are going to change on Friday no matter what Powell says so there's a good argument to fade any big move.

That said, here is what to watch out for.

1) Acknowledging delta will slow the recovery

At the July 28 FOMC press conference, Powell brushed aside delta, saying it wasn't likely to affect the recovery. By simply acknowledging that it will be a drag on Q3 (some banks have cut Q3 GDP estimates by 4 percentage points), it's a dovish shift.

2) The caveat could be that lost growth will materialize later

Delta may simply push the Q3 recovery trade back by a quarter. On its own, that wouldn't worry the Fed. If Powell strongly emphasizes that line of thinking, then it will be seen as a hawkish speech. The caveat to the caveat is that if he points out that delta and other variants add uncertainty, then it may balance out.

3) Inflation and bottlenecks

The message at the July 28 FOMC and since then has been that bottlenecks and transitory inflation will be more persistent than previously thought. This theme is no longer at the top of markets' minds, but if Powell highlights it again, then it will be another hawkish note. At the same time, his personal view remains that price pressures are transitory--something he will likely emphasize today away from the FOMC podium.

Finally, Powell's overall tone will be important. If he converys a message that Fed will support the recovery and is in no rush to tighten policy, then it could outweigh everything else. At the same time, Powell isn't going to tip his hand on the Sept FOMC yet. There's plenty of data to come and he likely intends to take his time sorting through delta, inflation and the jobs picture. All that argues for focusing on continued improvements in the virus situation in most of the world.

 

The ink was barely dry on the rising yields narrative before news of two explosions in Kabul killing 12 US servicemen and over 13 US afghans brought down equities and bond yields, pushing geopolotical risks in front. As Ashraf indicated, geopolitical risks weigh on markets when US interests (human/material) are at stake. The last time this happened was in January 2020 when US soldiers were killed during the events in Iran. The US dollar is stronger against all currencies, with the yen the least weak and CAD the weakest. US initial jobless claims edged up while the 2nd reading of Q2 GDP edged lower. We should also mention how US yields initially shot up as a result of hawkish comments from the 3 Fed members (Kaplan, Bullar and George), vowing to taper in Q3 regardless of virus cases. A new FX trade was issued to Premium members. 

Markets were settled into a bit of a lull ahead of Powell's Jackson Hole speech. The main themes of equity strength and yen weakness continued Wednesday but with less urgency. A larger change was in the sovereign bond market where yields rose the most in weeks in the US and Germany.

There's no clear catalyst but we're reminded of the June/early-July drop in Treasury yields that left everyone scratching their heads. It later turned out that the bond market was dialed into what was coming with delta.

Is there a new signal brewing? It's far too early to say. US 10-year yields rose 4 basis points to 1.34%, which is only back to August 13 levels and far from 1.60% pre-delta.

The obvious catalyst for higher rates is the better sentiment on delta, but it could also be jitters about Powell hinting at a taper, genuine fears about inflation or economic optimism and rotation into equities.

Technically, there's reason to expect the move to extend. The double bottom at 1.12% in July/August hasn't been tested with lows near 1.23% last week despite the jitters. A climb above the August high of 1.38% would add to the case for higher rates and, by extension, higher USD/JPY. Nonetheless, US 10 yr yields must first cross above the 55-DMA of 1.34%.

In Asia-Pacific trading there was another hint from the Bank of Korea, who became the first developed market central bank in the pandemic era to hike rates, lifting them 25 bps to 0.75%. Economists were split on the move ahead of time but rising consumer debt, a hot housing market and elevated consumer prices caused them to pull the trigger. Officials had been signaling a rate hike since May but that was delayed by a July lockdown.

Could that be a hint about what's coming from the Fed?

It only takes a modest slowdown in covid cases to spark a big reversal in favour of risk trades. Gold posted its biggest drop in nearly 3 weeks with the rise in real yields as XAUUSD failed at the technically crowded 1805/09 level. NZD is again the top performer, closely followed by AUD and GBP, while JPY and CAD are the weakest. US July durable goods orders came in stronger than expected. The chart below shows most major economies have seen negative economic surprises over the past 3 months, reducing the case for a Sep taper in the US or the UK. The Nasdaq short was stopped. 

We highlighted a potential peak in US cases and shift in Fed tone early on Monday, a theme the market has run with to start the week. Commodity currencies led the way again on Tuesday and US equities hit another record high. Importantly, within the US equity space there was a decided reopening bent with casinos and hotels as the top gainers, while consumer staples and Pfizer lagged.

For now, the trade is all about positioning for a crest in covid cases and repositioning for the reopening. It's an opportunity bulls don't want to miss.

Given the strength of some of the reversals, the momentum in this trade could last for some time, especially if Powell stays dovish. Beyond that, the market may focus on the demand picture. There were some warning signs in a soft Richmond Fed Tuesday at +9 vs +25 prior but new home sales were slightly stronger.

 

Powell's Jackson Hole speech was scheduled for Friday but it came with a twist – the live conference was moved to a virtual format. Some speculate the shift may be bullish/bearish for indices based on the lack of importance/weight the symposium will have on any policy guidance. Less than a month ago, Powell was brushing off the potential impacts of the delta wave on the economy but with the shift of a Fed conference he gets a first-hand view of how efforts to look past the pandemic may be premature. At the same time, there are indications that US covid cases may be hitting a peak.

It's now abundantly clear that this wave of covid cases will have a detrimental effect on the US economy, particularly with supplementary employment benefits set to expire in two weeks. A sign of the shifting sands at the Fed came on Friday as Dallas Fed President Kaplan – who was one of the first to call for a September taper – said delta is limiting production and slowing a return to the office. He highlighted the negative trend and said he may have to adjust his view by the time the Sept FOMC rolls around.

His comments helped to turn sentiment in equities but there's also growing evidence that the US is near a peak in infections. The seven-day average of cases today is 151K, up from 129K a week ago. That's a slowdown in the rise. Moreover, Florida cases are now down week-over-week (with the caveat that data from that state is messy). Importantly, Trump urged supporters to get vaccinated on the weekend and the US boosted its vaccination pace to 1 million for three straight days, with about half of those receiving a first dose.

The price action in global FX last week certainly highlighted fears about covid, delta and whatever variant comes next. On Friday, however, there were signs of a reversal in equities and hard-hit CAD. US Treasuries are also showing no sign of fresh fears.

For Monday's trade, the data points to watch will be the Markit August US PMIs. They're solid forward-looking indicators and may offer clues on how businesses are handling the virus impacts.