The great rally, can anything get the in the way of stocks?

• Stocks brush off geopolitical tensions and tariff pressures
• Rise in bond yields did not spook investors
• US labour market revisions cements case for Fed rate cuts
• New French PM has Herculean task to solve fiscal crisis
• Bank of France still bullish on growth
• US inflation in focus

Financial markets are once again defying gravity as we move through September, which is seasonally a weak month for stocks. The S&P 500 hit a record on Tuesday and brushed off concerns about an Israeli attack on Qatar. For now, the attack looks localized, President Trump assured the global community that it would not happen again and reiterated that Qatar is an ally of the US.

Other roadblocks that stocks have brushed off this morning include news that Russian drones had gone into Polish airspace, and news that Donald Trump is pressuring the European Union to put higher tariffs on Chinese and Indian imports.

US yield bump only temporary

European stocks are higher across the board on Wednesday and US stocks managed to eke out fresh record highs even with more bad US labour market data. Although stocks rallied, the dollar caught a bid on Tuesday, and managed to claw back some recent losses, especially vs. the swissie and the euro. The mini recovery rally in the dollar corresponded with a pause in the bond market rally on Tuesday. Yields rose sharply, and the 2-year US Treasury yield jumped by 8 bps. Interestingly, the rise in yields did not spook stock investors, which suggests that the upside for yields could be limited. At the start of trading on Wednesday, bond yields are stable, suggesting that investors may wait for the update on US CPI before making their next move. This has also limited dollar upside, and the dollar is losing ground against most of the G10 FX space this morning, although the euro and the yen are down slightly.

Record downward revision for payrolls cements case for Fed cuts

The rise in yields came even though there was a record downward revision in Non Farm payrolls for the year to March. This means that there were 911k fewer jobs created than were initially reported. Although this is a record downside revision, the market reaction was muted and rate cut bets were scaled back slightly after the data was released. The reason is that a Fed rate cut is now fully priced in by financial markets, and the market is already aware of weakness in the labour market. Although the 911k revision was more than some expected, it does not deviate from the narrative that the labour market remains weak, which solidifies the case for Fed easing.

Could the Fed disappoint?

A point worth noting is that as the labour market continues to soften, there are few other signs that the US economy is slowing down. This is why there is some skepticism about the chance of a 50bp rate cut from the Fed. The downward revisions to the payrolls report suggests that the Fed was right to kick off their easing campaign in 2024 with a 50bp rate cut, however, that type of mega cut may not be justified now.

The recalibration in the interest rate futures market still points to 6 rate cuts expected by the start of 2027, and three cuts are priced in between now and year end. It will take a bigger shock, such as an upside surprise to this week’s CPI report, to weigh on  the chances of rate cuts at every meeting for the rest of this year. Even if we do get an upside surprise to US CPI this week, we still think that the Fed will cut in September, although it would make further cuts this year less likely.

New French PM has herculean task

Ahead today, the US PPI data will be in focus, as a prelude to the CPI report released on Thursday. It is fairly quiet in Europe, and we will watch to see how the French stock and bond markets react to news that Macron loyalist Sebastian Lecornu is the new Prime Minister. The biggest task facing Lecornu is finding a political consensus among the left and right parties in the French parliament, something his predecessors have not been able to do.

Lecornu’s first task will be to write the 2026 Budget, which will require some major changes if the new PM is to get his political adversaries on side. It seems unlikely that the scale of cuts Bayrou wanted will actually see the light of day, so we expect the French deficit to remain elevated for some time. It is expected to be 5.4% of GDP this year.

Marine Le Pen summed up Macron’s predicament, saying that Macron had fired his last shot in naming Lecornu as Premier, she also said that new parliamentary elections were inevitable. Thus, more French political turmoil could be on the cards.

Political turmoil unlikely to derail economy

Interestingly, the political turmoil is not expected to hit growth in France this quarter. The Bank of France is expecting the French economy to grow by 0.3% this quarter. The Bank of France also recorded a boost in business sentiment. Construction and services growth advanced in August, and industry was led higher by strong demand in the aerospace and equipment sectors.

The political turmoil may still weigh on the French economy, but for now it remains resilient. This is one reason why French stocks have not fallen off a cliff. Although French blue-chip stocks have underperformed their US and European peers, they have still managed to post a YTD return, and we do not expect any major losses in the foreseeable future.