US employment was far stronger than expected

What happened?

The US economy added 162,000 jobs in August, almost three times the consensus estimate of around 56,000. June and July were also revised higher by a combined 55,000 jobs, while unemployment held at 4.1%.

Why markets reacted

Only a month ago, investors were worried that the US labour market was weakening rapidly. Friday’s report challenged that view.

A strong jobs market means households are more likely to keep spending, which supports economic growth and corporate profits. But it also gives the Federal Reserve less reason to tolerate inflation above target.

The probability implied by futures markets of a September rate increase moved back towards 60% after the data. Treasury yields and the dollar rose; gold fell.

Why this matters

The argument has shifted. Investors are no longer asking whether the US economy is strong enough to avoid recession. They are asking whether it is too strong for inflation to fall quickly.

That makes this week’s inflation figures especially important.

The global bond sell-off reached Britain

Government borrowing costs rose across the developed world.

The US 10-year Treasury yield ended Friday near 4.79%, while Britain’s 10-year gilt yield was around 5.14%. Earlier in the week, UK yields reached their highest levels since the global financial crisis, while long-dated gilt yields climbed to levels last seen in the late 1990s.

Several forces are at work: persistent inflation, heavy government borrowing, rising defence spending and large amounts of corporate borrowing to finance AI infrastructure.

Bank of England Governor Andrew Bailey also pointed to ageing populations, weak productivity and higher government spending as longer-term pressures on sovereign debt markets.

For UK investors, this has immediate consequences. Higher gilt yields make bonds more attractive, but they also feed through into mortgage rates, company borrowing costs and government finances.

Oil surged as US-Iran tensions intensified

Brent crude finished Friday at $96.28 a barrel, up 7.6% over the week.

The move followed renewed US-Iran military action and continuing disruption to shipping through the Strait of Hormuz. Only a fraction of normal commercial traffic has resumed through one of the world’s most important energy routes.

Then, on Saturday, the US confirmed strikes against three Iranian oil tankers after Iranian forces attacked American naval vessels. That keeps the geopolitical risk very much alive as markets reopen.

Why does this matter? Oil above $95 makes the inflation problem harder. It raises transport and production costs and puts pressure on household energy bills. If Brent moves sustainably above $100, central banks may be forced to keep rates higher for longer.

1. US inflation could decide September’s Fed meeting

Producer prices arrive on Thursday, followed by the much more important Consumer Price Index on Friday.

Economists expect headline CPI to rise around 0.4% during August, with core inflation up about 0.2%.

A softer reading would weaken the argument for an immediate rate rise and could push Treasury yields lower.

A stronger number, following Friday’s employment report and the latest jump in oil, would make a September increase much harder for the Fed to avoid.

For equity investors, this is probably the week’s single most important data point.

2. The ECB looks set to raise rates

The European Central Bank meets on Thursday 10 September.

Markets are pricing almost a full 25 basis-point increase, reflecting persistent inflation and renewed energy pressure. Reuters polling also suggests economists expect another increase this week, although views differ on whether that completes the cycle.

The rate rise itself may therefore matter less than what ECB President Christine Lagarde says afterwards.

If the ECB leaves the door open to more tightening, European bond yields and the euro could rise. A suggestion that this is the final move would probably be better received by rate-sensitive shares.

3. Oracle provides another AI spending test

With the main earnings season largely complete, Oracle is among the week’s more significant corporate reports.

Investors will focus on cloud infrastructure demand and spending related to artificial intelligence. The broader AI story remains powerful, but markets are increasingly separating companies generating revenue from AI from those simply spending heavily on it.

A strong cloud outlook could help technology shares. Disappointing guidance would add to concerns that valuations have run ahead of earnings.

4. Japan’s bond market deserves attention

Japan’s long-term government bond yields have risen to levels not seen for decades, with parts of the curve moving above 3%.

That may sound distant from a UK portfolio, but it matters because Japanese investors own enormous quantities of overseas bonds.

If domestic Japanese yields become more attractive, pension funds and insurers have less reason to hold US Treasuries or European government bonds. Even a gradual shift in capital could add upward pressure to global yields.

Final thought

The first week of September produced very little movement in the main equity indices, yet plenty changed underneath.

US employment looked stronger, oil jumped and government borrowing costs rose across major markets. 

What it does mean is that bonds, inflation and interest rates deserve at least as much attention as the latest stock-market record.

Markets react to every new number. Long-term investors don’t need to. A well-diversified portfolio should be built to cope with several economic outcomes, not depend on correctly predicting next Friday’s inflation report.