Last week the focus was on central bank policy. This week that focus will shift back toward economic fundamentals and politics, and investors may not be entirely comfortable with what they see.

The Bank of Japan (BOJ) announced a nuanced policy of targeting the yield on the government’s ten-year note at zero. On the day before the bank’s announcement the ten-year yield was -0.07 percent, which meant that in the near-term the BOJ wanted the yield to rise as it sought to take some of the pressure off the country’s banking system and other investors more broadly. If the yield target is achieved, and investors become confident that it can be maintained, it would allow the BOJ to pursue its goal of steepening the yield curve by anchoring the long-end and lowering the short-end even further into negative territory. In the longer-term, if its overall policy of aggressive stimulus proves effective and yields rise, then its zero target on the ten-year would become a ceiling rather than a floor, as the bank would endeavor to keep borrowing rates attractive.

Of course, markets need to cooperate, and that could be problematic. Although it has been only a few days since the central bank announced its new strategy, the yield on the ten-year note sits once again at -0.07 percent and the yen is modestly stronger as this week’s trading gets underway.

What’s Next for the Federal Reserve and ECB?

The Federal Reserve announced no change to its policy last week, disappointing those who would like the bank to simply get on with raising rates once again, as they continuously threaten to do. The dovish camp prevailed, however, in the face of evidence that the U.S. economy has recently slowed. The bank did its best to imply that a rate hike in the near-term remains a distinct possibility, and maybe a probability, including at its November meeting, although with the election coming just one week later, no one believes that.

A December rate hike remains very much on the table, but only if the economic data cooperates. The fed funds futures market is currently assigning just a 19 percent probability to a November rate hike, down from 29 percent the day before the Fed concluded its meeting, but a 55 percent probability to a December hike, down only slightly from 58 percent before the meeting.

The world is still waiting to see what the European Central Bank (ECB) does about its own stimulus program, which is inexorably approaching its end date on the calendar early next year, and confronting limitations in the pool of available bonds to buy. It is also the subject of an ongoing legal challenge in Germany. But the ECB still has a few months to decide what it can and will do.

The Presidential Race Takes Center Stage

In the meantime, presidential politics in the U.S. literally takes center stage this week with the first debate. According to the latest polls the race is close and up for grabs with just six weeks to go. According to S&P, in the post-war era the behavior of the S&P 500 in the three months prior to the election has been a good indicator of the eventual outcome. A rising market has generally, although not always, meant a victory for the incumbent or incumbent party. A decline has generally coincided with a victory by the opposition. So far this year, since the end of July the S&P 500 is lower, although just fractionally at -0.4 percent, perhaps reflective of the tightness of the race at this juncture.

This week also marks the end of the third quarter, which means earnings season is fast approaching. And once again, expectations have been lowered to anticipate another year-over-year decline for the quarter with the energy sector again being the biggest drag. According to Factset, earnings are now expected to decline by -2.3 percent in the third quarter, before resuming growth in the fourth quarter by 5.7 percent. If the price of oil holds near its current level of approximately $45 a barrel for West Texas Intermediate (WTI) the year-over-year comparisons become far more favorable in the fourth quarter. The chances of that happening will be influenced by what, if anything, comes of this week’s meeting of major producing countries looking to support prices in a world with ample supply.

Important Disclosures:   
The views expressed are as of the date given, may change as market or other conditions change, and may differ from views expressed by other Ameriprise Financial associates or affiliates. Actual investments or investment decisions made by Ameriprise Financial and its affiliates, whether for its own account or on behalf of clients, will not necessarily reflect the views expressed. This information is not intended to provide investment advice and does not account for individual investor circumstances.
The S&P 500 is an index containing the stocks of 500 large-cap corporations, most of which are American. The index is the most notable of the many indices owned and maintained by Standard & Poor's, a division of McGraw-Hill.
West Texas Intermediate (WTI) is a grade of crude oil used as a benchmark in oil pricing. This grade is described as light because of its relatively low density, and sweet because of its low sulfur content.
Investment decisions should always be made based on an investor's specific financial needs, objectives, goals, time horizon, and risk tolerance. Investment products are not federally or FDIC-insured, are not deposits or obligations of, or guaranteed by any financial institution and involve investment risks including possible loss of principal and fluctuation in value.
Ameriprise Financial Services, Inc. Member FINRA and SIPC.