Global markets dance to China's tune

The session in London is only two hours old, and already markets have come under heavy pressure.

The Leadenhall building
Source: Bloomberg

China appears to have discovered a love for active FX intervention. Once is an experiment, but twice makes it a trend. The spectre of currency wars was worrying enough yesterday, but today it looks real enough to touch. A single move might have passed without reaction from China’s trading partners, but now it looks like a tit-for-tat move by others in the region is certain. When such moves are on the cards, the logical reaction from investors is to seek shelter in bonds, which is exactly what is happening now.

What is also taking place is a rapid unwinding of the long dollar play that seemed to be the one sure thing for August. A weakening yuan hits US exports to China, putting the brakes  on US economic growth, and thus potentially causing the Federal Reserve to stay its hand. September’s rate hike looks much less likely this morning than it did just 48 hours ago.

UK wage data provided an unpleasant surprise for sterling watchers, as growth in earnings slowed in the three months to June, sparking a rapid drop in the pound versus the dollar and the euro. Expectations of a move by the Bank of England are also rapidly being pared back, and both the Fed and the Bank of England can now point to China’s move as a reason why interest rates should stay precisely where they are.

Ahead of the open, we expect the Dow Jones to open at 17,232, down 170 points from yesterday’s close.

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