The knee-jerk reaction in BRL and in most Brazlian assets has been swift and sharp, as traders try to digest just what this means for Brazil going forward. As just one example, the Ibovespa fell 13.9% (its worst day since early 2020).

The Lula victory is unambiguously a fiscal risk event in the near term. But the medium-term trajectory is what we’re now more focused on, and this hinges almost entirely on whether Lula can credibly signal fiscal consolidation or not.

Here’s how we now see things heading for Brazil.

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A month ago, we took our stance in Betting Against the Budget, saying that the move higher in yields and the cut to headroom made it very likely for the fiscal announcements to disappoint investors.

UK assets, including GBP, have held up well so far, partly because no policy balloons have been sent up. That being said, Healy has drip-fed some details over the past week, but ultimately we struggle to see the Budget giving a meaningful boost to risk assets.

In terms of a probability-based outcome, we lay out below the chances of a non-event/kicking the can down the road, versus other more negative outcomes.

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Fast forward to today, and rumours are circulating that BoJ officials are pushing back the potential for an October 30 hike (which would be back-to-back moves).

This aligns with our view from last month that the Yen outlook is murky. However, several catalysts will likely dictate the BoJ’s actions over the next six months and have a knock-on impact on USD/JPY.

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We disputed this and laid out our reasoning for shorting the 30-year Treasury and targeting 6%.

In the weeks following our note, the 30-year yield has climbed to fresh highs, at 5.7% as we write. Even though we are nicely ITM, we’re still banging the drum for 6% and hold to our view that this level will be seen before year-end.

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BRL spiked at the open in São Paulo on Monday and continued to extend gains today, in a good early sign that the knee-jerk move hasn’t been faded overnight.

Our best dollar P/L trade so far this year came from being long BRL via funding in JPY, initiated at the end of March via Energy Is Repricing Carry. This was based more on the energy tailwind, with politics not moving the needle as much earlier this year.

This has now shifted, with politics front and centre, but this doesn’t mean BRL has fully run its course in terms of appreciation through to year-end.

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The first of three trade ideas presented was going long the 10yr OAT-Bund spread, because “regardless of how you dice it up, the cleanest way to express the view is the simplest.”

This was called with the spread at 86.2bps. This morning it traded through 150bps, the largest yield gap between France and Germany since the euro-zone crisis.

We removed our exposure earlier this week, but we still hold our long outright 2yr Bund trade from The ECB Is Overtightening, as traders are indeed paring back the potential for ECB rate hikes into 2027 as we expected.

While it’s worth letting this run out, we outline why it’s time to start banking some profits from the French headaches.

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Chancellor Healey, speaking at the Labour Party conference in Liverpool this morning, pledged that “fiscal discipline underwrites every government promise” and that the budget’s core will be fiscal discipline.

However, we are becoming increasingly sceptical of the outlook ahead of the Budget, which is due out on the 28th, given events over the past couple of weeks.

DTCC data out today further shifts our mood, with Bloomberg’s Vassilis Karamanis noting “options calling for sterling to drop against the dollar in the week after the October 28 budget now account for two-thirds of market volumes this month in industry data. Against the euro, it’s three-quarters.”

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Even though our trade expression of this (long 2s30s) proved to be the wrong way to profit from his actions, todays announcement of $6bn for the operation scheduled tomorrow has proved to be brushed aside by markets, with the 30yr up 10bps on the day. Even though the 20yr is underperforming the 30yr, it’s still heading higher.

To us, it’s clear that the market is being overwhelmed by macro forces, including the PMI data out today. We therefore hold to our conviction from August but look to express it in a simpler way: targeting a move in the 30yr to 6% by year-end.

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However, the real juice now lies in the coming 12-18 months, where we’ve seen a material repricing in expectations. Indeed, when our July note was published, SFIZ7 was trading around the 96.00 handle. It’s now almost a full big figure lower at 95.13, implying over 100bps worth of hikes through to December 2027.

Even with caution needed when extrapolating the UK's energy sensitivity from the latest rally in oil prices, the extent to which such aggressive tightening of UK monetary policy next year is priced seems extreme and deserves to be faded.

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Although we haven’t been as explicit in recent commentary on the monetary policy actions of the ECB, we want to reaffirm our view that hiking twice through to year-end would be a policy mistake.

Even though we don’t fight rate pricing for the October or December meetings, targeting a reversal in 2-year Bunds looks attractive.

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The political problem is becoming harder to distinguish from the fiscal one that the country also has to contend with. The latest TV debate between presidential candidates presented fiscal proposals that ranged from implausible to downright bizarre (Far-left candidate Jean-Luc Mélenchon said “to just take the bonds, and burn them.”)

From where we stand, there is plenty of risk premium left to be built into French rates, and opportunities are emerging.

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Pressure from Bessent, pressure from PM Takaichi, and pressure from the domestic economy are pulling Ueda and his colleagues in different directions on monetary policy actions.

This leads us to conclude that, for the moment, the outlook for the Yen is a complete mess and should be treated cautiously to avoid unnecessary losses from trading the pair.

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Support was found around the $4,000 mark into July, with August sparking a strong rally higher in the precious metal.

Our structure still has three months to run, with our payoff only capped above $5,400. That projection might raise some eyebrows, but there are plenty of growing tailwinds to suggest at least a run at $5,000 before year-end.

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The move is a clear sign that there’s discomfort among the powers that be about 30-year yields hitting their highest level since 2007, and the strain of total public debt surpassing $40 trillion for the first time.

Although we take the arguments around the signalling this sends (is this Bessent’s take on Draghi’s ‘whatever it takes'?), we’re happy to hold the steepener trade and see this initial move fading. It further increases our conviction in being long XAU/USD along with other implications in the FX & Rates space.

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Even though we have laid out our stall on how we see the BoE moving through to year-end in The BoE Hikes In Sept, we have largely stayed clear of any politically-driven UK plays so far this year, having been stopped out of our UK long 2s30s trade back in March.

We now see several promising fiscal signs heading into the autumn budget, and as new PM Burnham’s initial plans are implemented when parliament returns from recess. This makes Rates plays more attractive, through asset spread swaps or other plays.

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We took profit on our long BRL/JPY trade on the 23rd July in advance of any action, tying it in with our latest thoughts on the Yen here.

In the trade note we concluded, “we don’t see such a move as being constructive for the Yen in the medium term, and would look to add fresh shorts on any interim dip.”

As a result, we now look to tactically fade the intervention-led move in Yen crosses, with the belief that (yet again) the fundamental picture for the currency hasn’t shifted.

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Yet despite the confusion and pulling of forward guidance, the cleanest trade takeaway from the meeting is obvious to us: a clear bear steepening vibe for the coming months.

When you consider the meeting through such a lens, even Warsh’s lack of credibility adds to the appeal of taking on a new trade in the rates space.

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It’s true that shorting the Yen at these levels doesn’t offer an attractive risk/reward profile, which is why we took profit on our call spread a month ago. Yet although the concept of more targeted and frequent rate hikes, combined with more verbal intervention, could act to put a top in USD/JPY for the immediate term, the medium-term implications of tightening policy ring alarm bells to us that this would be a clear policy mistake, and ultimately hurt the Yen rather than help.

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Therefore, the focus turns to when the MPC will pull the trigger and hike. In our view, July is a non-event, but September is both live and likely to see the first move. This isn’t currently being fully appreciated by SFIU6, with options providing an attractive payoff to put our flag in the sand.

SUMMARY

• Hikes are indeed coming for the UK, with inflation expectations rising again and the Middle East conflict showing no signs of abating.

• We favour September as the month to move as it allows the BoE to show a proactive stance without risking being caught behind the curve in Nov/Dec.

• Current pricing provides an attractive payoff of 4:1 on a put condor for SFIU6 with limited risk.

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We believe that, given the uncertain macro environment and the risk events on the calendar for Q3, it’s a good time for us to add vol-driven structures to the portfolio to help generate direction-agnostic profit from some G10 pairs.

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