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Written by Convera’s Market Insights team
Fed in a comfortable position
Boris Kovacevic – Global Macro Strategist
The Federal Reserve is in a comfortable position to remain on hold and to evaluate the effects of monetary policy on the economy. This is the consensus going into today’s last Fed rate decision of the year. Both inflation and the labor market have cooled down in the United States, although not enough to cause a panic about heightened recession fears. This has upheld the goldilocks environment for global equity markets. The last non-farm payrolls report on Friday and CPI report yesterday surprised to the upside. However, the downward trend remains clear, and the recent macro data has not been able to sway the Fed in one or the other direction.
US inflation came in slightly above consensus, rising by 10 basis points instead of remaining unchanged on the month. Thanks to base effects, however, the yearly rate continued its slow but steady descent in November, falling from 3.2% to 3.1%. Underlying (core) inflation remained sticky at 4%, still twice above the Fed’s target. Still, the report itself won’t be a game changer for policy makers as it came in largely as expected. The same can not be said about US small business optimism falling to a 6-month low. The NFIB barometer pushed lower for the fourth consecutive month, coming in at 90.6. Looking at the most important two sub-indicators shows how expected employment and price growth both picked up significantly in recent months to levels that would not be compatible with inflation and wages falling back to their respective 2% and 3% targets.
Going into 2024, the bar for rate cuts and hikes remains high, giving us a neutrally positioned Fed. This will put the press conference after the rate decision and the release of the dot plot into focus. Investors are pricing in between four and five rate cuts for next year. The Fed’s interest rate projection could show one or two cuts for the second half of 2024. The question will be how much value investors will place on those projections. Looking at it from a global macro and markets perspective, the battle between investors and central banks will be decided by incoming data and not by what happens this week. Especially given that the sensitivity to central bank speeches has recently fallen due to this divergence between what policy makers have been saying and what data has been showing. So, the macro data will continue to matter more going into 2024 because it typically leads central bank sentiment by a couple of months.
UK growth slowed remarkably
Boris Kovacevic – Global Macro Strategist
The last data patch for the third quarter has finally been released and it showed the UK economy falling more than expected in October. Economic activity unexpectedly contracted by 0.3% and more than the 0.1% decline economists had expected. Disappointment was the broad theme of the report published this morning. A weak industrial sector and falling domestic demand have pushed down the Gross Domestic Product, which has now been almost flat since the beginning of 2022.
Industrial and manufacturing production fell by 0.8% and 1.1% on the month, both coming in weaker than expected. The trade deficit also widened at £4.48 billion compared to the £2.15 billion expected. Heading into the data, the pound traded in the mid $1.25 range and has now been pushed to the lower $1.25 levels. Investors betting on the Bank of England remaining the most hawkish central bank going into next year are having to struggle with realizing that the UK economy is in the same boat as its peers. GBP/EUR declined and is on track to record its second daily fall. The currency pair hit a 3-month high last week on anticipation that the European Central Bank would ease policy more aggressively than the BoE next year. Since then, falling wage data yesterday and a weak GDP print today out of the UK have reversed sentiment a bit, leading to a repositioning in the pair.
Both data points won’t be enough to change communication from the Bank of England. However, the risks are tilted to the downside on growth going into 2024. We do expect the room for markets to price in more rate cuts from the central bank, putting it closer to its peers.
Euro treading carefully ahead of Fed
Ruta Prieskienyte – FX Strategist
The euro edged towards the $1.08 mark as investors swiftly redirected their attention to the imminent monetary policy meetings due later this week while digesting key data from the Eurozone and the US. EUR/USD made modest gains early in the London session following an uplifting ZEW print. However, the euro surrendered part of the advantage as tighter US-German 2-year spreads on the back of an uneventful US November CPI print moved in the US dollars favour.
German investor morale improved for the second consecutive month and surprised investors to the upside. The ZEW economic sentiment indicator climbed to 12.8 in December reaching a new high since March 2023. Despite an ongoing fiscal budget crisis, economic expectations have once again slightly improved, as more respondents expect interest rate cuts by the European Central Bank (ECB) in H1 2024. The Current Conditions Index for the economic situation also ticked upwards, amid from low levels. German investors have been pessimistic about the current domestic economic situation for 25 consecutive months – the longest streak since GFC. Across Eurozone as a whole, 85.4% of the surveyed analysts expected stable or improving economic conditions over the next 12 months. Meanwhile, German wholesale prices continued to fall in November, declining by 3.6% y/y, slightly easing from an over three-year low of 4.2% drop in October. This marks the eighth consecutive period of decline, primarily attributed to a base effect stemming from high price increases recorded last year.
All eyes are now on today’s Fed monetary policy statement. A hawkish hold and push back against any rate cut expectations could leave the euro on thin ice. The short-term momentum remains bearish, with support at 100-day SMA at $1.0760 to cushion significant losses. Meanwhile, resistance at 200-day SMA at $1.0820 could dampen EUR/USD gains.
US 2-year yield up over 4% in a week
Table: 7-day currency trends and trading ranges
Key global risk events
Calendar: 11 – 15 December
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*The FX rates published are provided by Convera’s Market Insights team for research purposes only. The rates have a unique source and may not align to any live exchange rates quoted on other sites. They are not an indication of actual buy/sell rates, or a financial offer.
