Market Brief: AI enthusiasm ebbs, weakening dollar

The dollar is edging lower and government bond yields are slipping from multi-decade highs as sentiment deteriorates amid a sell-off in artificial intelligence stocks. Global semiconductor shares are tumbling after Chinese chipmaker CXMT announced a major breakthrough that could help it narrow the technology gap with rivals in Taiwan and South Korea, and the broader complex is suffering as investors grow concerned about infrastructure spending by the biggest hyperscalers, with equity futures pointing to losses at the open. Ten-year Treasury yields are holding near 5.18%, down from 5.34% last week as bond markets reopen after yesterday’s holiday, and the euro, pound, Canadian dollar, and yen are all up roughly 0.3% against the dollar ahead of this morning’s North American open.

Energy prices are edging off yesterday’s highs but remain elevated, with Brent trading for more than $104 a barrel. Yemen’s Houthis have launched several attacks on oil and gas facilities and on Riyadh’s international airport in recent days, killing at least 14 people, and Iran has stepped up strikes on vessels around the Persian Gulf, with at least six reported yesterday. US relief efforts are having little effect: an “energy ceasefire” between Russia and Ukraine was apparently declared without the participation of either country, and lifting sanctions on Russian diesel imports will release volumes too small to ease tightness in refined product markets—to say nothing of the serious political and legal opposition the move faces.

The spread between French ten-year yields and their German counterparts remains near 140 basis points, down from almost 160 last week, as the pressure being brought to bear on politicians shows signs of gaining traction. In a speech last week, hard-right leader Marine Le Pen called for fiscal restraint, and she is now signalling that she is open to letting the government force through its 2027 budget. That may stop the sell-off from deepening and spreading to other euro-area markets. Even so, we think the euro will struggle to climb off the mat, as tighter financial conditions threaten to soften the European Central Bank’s hawkish stance, exposing the currency to further losses.

Implied volatility in most major currency pairs remains abnormally low heading into next month’s mid-term elections. As we argued last week, the outcome is unlikely to be a game-changer for foreign exchange markets; America’s fiscal trajectory will remain on its current path, and trade and foreign policy will continue to be set by the White House.

Tomorrow’s US inflation update is unlikely to shift market positioning ahead of the Federal Reserve’s decision later this month, but could influence longer-term expectations. Headline consumer prices are expected to have risen 0.6% in September from the previous month, driven by a sharp jump in energy costs. The core measure, which strips out food and energy and more closely tracks the central bank’s traditional inflation target, is seen rising just 0.2%, putting it on course for a 2.5% annual increase. Few expect the Fed to raise rates this month; futures markets are putting the odds at only 20%, and it would require a massive surprise to materially change that—but a hotter-than-expected reading could leave investors bracing for more hawkish language and pricing in more tightening early next year, while a softer print could prompt a more dovish response.

But markets look complacent about the dollar’s strength, given its fragile underpinnings. A fundamental reappraisal of the artificial intelligence boom could soon prompt investors to question their overexposure to US markets. Or a de-escalation of the war with Iran could see the global energy shock reverse, unwinding monetary policy expectations and wrong-footing prevailing assumptions. Either way, it’s reasonable to expect turbulence to increase over the coming weeks.

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