By Michael Brown, Senior Research Strategist at Pepperstone
DIGEST – Stocks built upon recent gains yesterday while the dollar softened, and Treasuries advanced across the curve. Today, focus falls largely on the UK Budget, with significant tax hikes on the cards.
WHERE WE STAND – It did seem, for a time, yesterday, as if the equity rally was about to take a bit of a pause for breath.
However, that proved not to be the case, with buyers out in force once more, pushing spoos back about the 50-day moving average, and allowing stocks to gain ground once more.
As has happened so many times this year, the equity bears have been proved wrong yet again, particularly with spoos nudging back above the 6800 mark this morning. It remains the case that a resilient underlying US economy, robust earning growth, a calmer tone on trade, and a looser monetary backdrop provides a ‘perfect storm’ to force risk assets to the upside. Add in very favourable seasonality, plus FOMO/U flows into year-end, plus the resumption of corporate buybacks, and this really isn’t a mix that I’d be seeking to fade right now.
Yesterday’s US data, even if stale, helped to support the idea that the economy remains relatively resilient under the surface, with headline retail sales having risen 0.2% MoM in September, albeit largely propped up by autos and gas. Still, it’s notable that emerging labour market slack hasn’t caused a significant degree of ‘belt tightening’ among consumers, which bodes well into the holiday season.
In any case, participants have grown increasingly convinced that the FOMC will deliver another rate cut at the Dec meeting, with a 25bp cut to round out the year now seen as about a 90% chance. I still see things as more of a coin flip, but if we end the week with the market where it is right now, will admit that another cut is a certainty, given the Committee’s reluctance to surprise participants wherever possible. It does, frankly, all seem to hinge on what Chair Powell wants to do, as his call is likely to swing colleagues such as Gov Cook and Chicago Fed President Goolsbee to vote in the same way that the ‘main man’ chooses to.
What’s more interesting that that is that we saw more of a ‘textbook’ market reaction to the aforementioned dovish repricing yesterday, with the buck taking a lurch lower south of the 100 handle, and with the benchmark 10-year Treasury yield dipping back beneath 4.00%. I must say that’s a dip in the buck that I’d be keen to buy into, given the increasing likelihood of a return to the idea of ‘US exceptionalism’, though must admit that I’d steer clear of the FI space for now, as detailed below in speaking of the UK Budget today.
Lastly, and I don’t do single stock picks especially often, but I wonder if GOOG/L is becoming the AI ‘play du jour’. Not only has the release of Gemini 3 gone down incredibly well, but the stock does trade relatively cheap compared to other hyperscalers, and has the advantage of incumbency over AI-related peers; namely, we all use google anyway, so using them AI product will be the most natural thing to do. Plus, GOOG/L are now starting to sell their own chips, to the likes of META, for instance. One to watch into 2026, I feel.
LOOK AHEAD – The months of leaks, rumours, trial balloons, and even an emergency press conference are finally now over, and ‘Budget Day’ is at long last upon us.
At this point, given all the pitch rolling that’s taken place, the contours of what Chancellor Reeves is likely to announce later are well-known. With the entirety of the £9.9bln of headroom against the fiscal rules having been eroded since the ‘Spring Statement’, a significant fiscal tightening, delivered almost entirely via tax hikes, is on the cards, not only to restore headroom to that prior level, but likely in an attempt to double the ‘buffer’ with which the Treasury are operating.
With the Government unable, and unwilling, to deliver sizeable spending cuts, and with the Chancellor seemingly having ruled out a manifesto-busting income tax hike, focus instead will fall on a ‘smorgasbord’ of smaller tax increases. These are likely to include an extension of the freeze on income tax thresholds to 2030, the imposition of National Insurance on salary sacrifice schemes, revaluing the top three council tax bands, the possible imposition of a council tax surcharge on the most expensive of properties, a pay-per-mile scheme for EVs, and much else besides.
All of this is to not only plug the ‘black hole’ that has emerged over the last six months, but also to fund a higher degree of government spending, probably to the tune of £10bln, compared to the last OBR forecast. This uplift stems not only from plans to scrap the two-child benefit cap, but also the failure to reform welfare spending over the summer. The most significant problem here, however, is that the planned spending increases will be front-loaded, and the planned tax hikes are primarily back-loaded, leading to major question marks over the sustainability of these proposals.
Speaking of questions, market participants will probably have three in reaction to Reeves’s announcement.
Firstly, are the books balanced and, if so, are they balanced in reality, not just on paper via some forecast trickery? Secondly, what is the gilt financing remit for the year ahead, and is this lower than it was in FY24/25? Thirdly, what does the fallout from all this look like politically, and is it bad enough to push rebel Labour MPs into forcing a leadership challenge?
For markets, this does feel like we’re setting up for a ‘sell the rumour, buy the news’ event, especially if the Budget itself ends up not being as bad as participants had worried it could be, thus sparking a fairly significant round of short covering in the GBP and Gilts. That said, the real ‘fun’ will start when the political fallout gets going, and the fiscal package inevitably goes down like a lead balloon, so I remain inclined to fade any upside in both UK FX and FI if it were to occur.
Elsewhere, today, we get the latest US jobless claims and durable goods orders data, plus a 7-year Treasury auction, and the release of the Fed’s ‘beige book’ of anecdotal economic evidence. Also, do note that today will be the last ‘proper’ trading day of the week, with the US away for Thanksgiving on Thursday and Friday.