Dollar and yields ease from highs ahead of Fed
Another crucial week of central bank meetings is getting underway, with markets razor-focused on the Fed’s decision on Wednesday amid receding expectations of aggressive rate cuts. The US dollar ended last week at two-and-a-half-week highs as the 10-year Treasury yield briefly crossed above 4.4%.
US yields have been surging lately on a combination of increased optimism about the American economy under a Trump presidency and worries about an enlarging budget deficit. Moreover, with inflation sticking above the Fed’s 2% target even before Trump has entered the White House, investors have sharply scaled back their rate cut bets for 2025 and are pricing in just two 25-basis-point cuts for the whole year.
For this week, a 25-bps reduction is almost fully baked in, so what will be more consequential for the markets is whether or not Fed officials will agree with investors or predict fewer cuts.
At this point, the market is positioned for a somewhat more dovish dot plot as it’s unlikely that FOMC participants will flag fewer than 50 bps of cuts, and some may still hold out for a decline in inflation during 2025 and pencil in three cuts.
But even then, traders may not necessarily react very positively unless Chair Powell softens his cautious stance.
Tech stocks rally but gloom elsewhere
Surprisingly, the shallower rate cut path hasn’t made a huge dent on Wall Street as only the Dow Jones is in the red this month, while the tech-heavy Nasdaq is trading at record highs. Broadcom became the latest chipmaker to benefit from AI mania; its stock skyrocketed by 24.4% on Friday on solid revenue guidance. The broader tech sector has been rallying too.
But stock markets in Europe and Asia had little to celebrate on Monday amid a looming trade war with the US, political uncertainty in France and Germany, and subdued consumption in China.
Retail sales in China slowed sharply in November, adding to the frustration about Beijing’s insufficient response to stimulate the world’s second largest economy. A slight pickup in industrial output wasn’t enough to offset those concerns.
In Europe, stronger-than-expected services PMIs by S&P Global also failed to buoy equities as manufacturing PMIs fell deeper below 50 in Germany, France and the UK.
Pound and yen eye central bank decisions
However, in currency markets, the euro and pound were able to pare some of last week’s losses against the US dollar on relief that the overall economic picture in the Eurozone and UK did not worsen in December and slightly improved in some cases.
The pound has bounced back after coming close to breaching the $1.26 level earlier in the session. There could be more gains in store for sterling this week if the Bank of England keeps rates unchanged on Thursday and does not tweak its language to reflect the recent poor GDP readings.
The yen remained on the backfoot, however, as the Bank of Japan will probably skip a rate hike at its meeting on Thursday as policymakers await more data on wage growth. The BoJ’s renewed cautiousness is somewhat surprising given that the recent set of growth and price indicators have been on the strong side. Nevertheless, a hawkish tone could yet revive the struggling yen.
Bitcoin surges again
In cryptocurrencies, Bitcoin extended its gains on the back of comments by President-elect Trump last week that he still intends to create a strategic reserve of the popular crypto.
With Russia also considering building a similar reserve, a new race between Washington and Moscow could propel cryptos even higher. Bitcoin hit a fresh all-time high of $106,533 earlier today before easing a little.
By XM.com
