Global Macro
The first trading week of the year is shaping up to be negative for risk assets with global equities unlikely to build on their nine-week winning streak any longer. Markets have recently reduced bets of Fed, ECB and BoE easing for this year due to an expected uptick in inflation and stronger jobs data but remain convinced, that at least five rate cuts will be implemented, starting with the first Fed cut in Q1 or Q2. The dollar extended its gains to above 1.3% and is on track to record its best week since May 2023.
A good streak comes to an end. Global equity markets took a breather in the starting week of 2024 amid low liquidity and a lack of market-moving macro data. The tech-heavy Nasdaq fell by 3.1%, while the broader S&P 500 shed around 1.7% of its value. The MSCI World Index fell by 1.7% as well, after having risen for nine positive weeks in a row. While it will take some time for traders to be back at their desks and for volatility to pick up again after the end of the holiday season, key economic releases are coming up this next already, including inflation numbers out of the United States.
Dollar bears on hold. The backdrop going into the year had been dollar negative. The assumption of the Federal Reserve starting an aggressive easing cycle somewhere between March and July had pushed down government bond yields in the United States, in the process weighing on the Greenback. The US Dollar Index (DXY) had fallen by 5.5% from October, inversely tracking the 15% rise in US equities over the course of the last two months of 2023. However, DXY (102.12) has started the year on stronger footing and is on track to record its first positive week since the beginning of December. Markets are currently placing the first rate cut into March with a probability of around 50%. Both EUR/USD and GBP/USD have been tracking this implied March cutting probability quite nicely since at least the middle of last year, highlighting how crucial hopes for an early Fed easing cycle has been for the risk-on rally.
Global Macro
Last week’s major events
Slight hawkishness. Last month’s FOMC meeting had been enough to convince investors of a coming regime change in monetary policy with Chair Jerome Powell citing progress on the inflation and labor front. However, participants of the FOMC agreed to hold the benchmark interest rate at restrictive levels for some time with some stating their willingness to tighten policy if necessary. Overall, this week’s Fed’s meeting minutes were more hawkish than Jerome Powell’s tone indicated during the press conference in December.
Fewer job openings good for the Fed. Markets did not react aggressively to the Fed minutes, as most investors continue to follow the data for any clues on when the Fed might start its easing cycle. One such data point has been the US JOLTS number. Job openings in the United States fell by 62 thousand to 8.79 million in November. Both the demand for workers and the quits rate fell to near three-year lows, indicating some level of easing of the labor market. Fewer people switching jobs could mean a continued moderation of wage growth in favor of the Fed’s inflation target.
But not enough, as job growth accelerates. However, private employers hired 164 thousand workers in December and around 50 thousand more than economists had expected, according to the ADP report. The data beat was followed by initial jobless claims showing less people registering for unemployment benefits (202k vs. 216k expected) in the week ending December 30th. This ambiguity has been enough to support the dollar this week. The data surprises culminated in the non-farm payrolls report showing how the US economy added 216 thousand workers to its workforce – more than expected.
German labor market holding up. This week’s data out of Germany showed the Eurozone’s largest labor market remaining somewhat resilient. While joblessness rose by much less than was expected (5k vs. 20k) in December, it still constituted the longest streak of rising unemployment numbers (11 months) since 2005. The joblessness rate ticked up from 5.8% to 5.9%. The two main leading indicators for the German labor market remain negative but have recently turned up slightly, suggesting that the expected rise in the unemployment rate might be limited. This will be an important factor for the European Central Bank to watch over the upcoming months as inflation is expected to rebound due to base effects.
Investors looking through the short-term reflationary impulse. German inflation rose from 2.3% in November to 3.8% in December, partially driven by the upward pressure from energy base effects. Last December saw the government introduce an emergency aid program to help households cover monthly gas and heat expenses via deductions. This pushed down energy prices, which has created a low base from which inflation has rebounded on an annualized basis. Core inflation continued its slow but steady descent to 3.5%, having fallen for six consecutive months. French inflation edged higher as well with price growth being pushed higher by the services sector and energy. Inflation rose from 3.9% to 4.1% with the monthly change printing a benign 0.1% gain.
German yields have risen this week. FX traders have largely ignored the rebound of inflation in France and Germany in December as the implications on monetary policy remain limited due to the expected disinflation in the first half of 2024. However, the short-term reflation has created some volatility on fixed income markets with the German 10-year government bond yield rising by the most since March (+0.13) to 2.13%. The positive effect on the euro has been limited as the risk-off environment created by higher interest rates this week overshadowed any potential benefit from rising Bund yields.
Global Macro
The view ahead
Path of least resistance. Investors ended 2023 with taking profits on both the equity and fixed income front and have entered 2024 with more cautious positioning. We are currently stuck between narratives and in a period in which the incoming data will be crucial to determine with existing themes get through out the window. The next few weeks will give us plenty of data points to gauge how likely some of the narratives are to drive financial markets in Q1. The themes below have shaped financial markets since November. However, some of them have already started to be tested this week, especially given that the stretched positioning in some asset classes meant that the path of least resistance has been down on both stock and bond prices.
- Markets pricing in aggressive rate cuts from central banks for 2024
- German lagging macro data continuing to weaken, while leading indicators recover
- Inflation continuing to come down to the 2% target
- The US dollar falling and global equities rising
The 7-day look ahead.
Monday (08.01) – German factory orders, Eurozone retail sales, Eurozone sentiment
Tuesday (09.01) – German industrial production, US NFIB survey, Australian retail sales
Wednesday (10.01) – French industrial production
Thursday (11.01) – Australian trade data, US inflation (CPI),
Friday (12.01) – Chinese inflation, UK GDP + other data, US PPI
All dates GMT
FX Views
Dollar bears caught wrong-footed
USD Safe-haven flows. The US labour market has remained resilient – with the ADP employment reading and weekly initial jobless claims both beating expectations – while jobs growth has been stronger than forecast in three of the last four months. This led investors to slightly revise their expectations of how much the Federal Reserve would cut interest rates this year with the likelihood of policy easing coming as early as March falling from 86% to 65%. This has in turn pushed US yields on the front end higher, while also putting pressure on global equities. The US dollar has benefited from both developments and is on track to record its best week since May. This bout of strength continued Friday as the non-farm payrolls report beat expectations.
EUR Negative risk environment. While investors are looking beyond this week’s reflationary prints in Europe, the question of when and how much the European Central Bank will ease monetary policy continues. Policy makers like Spanish central bank governor Pablo Hernandez de Cos have recently pointed out the importance of the future evolution of data in the context of driving this decision with his Austrian colleague warning about premature cutting bets. For investors to reprice their expectations of significant easing in 2024, a lot would have to go wrong. This is why the consensus sees the EUR/USD pair rising slightly this year. However, the real rate differential still favors the common currency trading below $1.07. EUR/USD will most likely end the week below the $1.10 threshold, suffering a 1% decline since last Friday. The minor upward trend in both global equities and the euro starting from November is still intact, with the trend line currently around $1.09. A breach of this support level would put the focus on $1.0850 and support the narrative of a rebounding dollar.
GBP Strong PMI offers support. GBP/USD has been oscillating between $1.26 – $1.27 for six consecutive weeks now, displaying range bound behavior due to the uncertainty regarding the monetary outlook of the Federal Reserve and Bank of England. The economic picture is much more complicated in the United Kingdom versus the clearly weak momentum in the Eurozone, explaining why the pound has held up better versus the Greenback compared to the euro. While the British economy is weakening in line with higher interest rates and the slowdown of the global business cycle, some pockets of hope have been visible in the data. Inflation continues to fall but remains well above its G10 peers and the BoE’s target. At the same time, the UK’s composite purchasing manager index remained in positive territory for a second consecutive month. This explains this week’s rise of GBP/EUR to just below the €1.16 level, which has acted as an anchor for the past few weeks. The currency pair is currently trading slightly above its 2023 average of around €1.15, which is surprisingly also its post-pandemic average.
AUD Bearish momentum persists. The AUD/USD struggled in the first week of the new year with the pair down as much as 2.0% at one point. December services PMI rose to 47.1 from 46.0 in November but remained in the contractionary zone below 50 for the third month in a row, owing to the steepest decrease in new businesses since September 2021. Transport and storage firms had the greatest decline in both new business and activity. Data from the last two months indicates that while the Australian economy is slowing, but not getting worse, implying a soft landing. In the medium term, we believe the AUD and other cyclical markets have front-loaded the decline, as they have done for several quarters. We still see the risk of more base building and retesting of the 0.6170 4Q22 low before a cycle bottom is hit in the first part of 2024. Key data to watch next week includes building approvals, retail sales, monthly CPI indicator and trade balance.
CNY Yuan weakens amid policy moves. Last month, the PBoC infused $50 billion into policy banks through pledged supplementary lending (PSL), implying that it may increase financing for housing and infrastructure projects to help the economy in 2024. As of the end of September, the PSL rate was 2.4%, which was lower than the 1-year policy rate and the benchmark lending rate for banks. Between 2014 and 2019, the PSL program was widely employed for shantytown rebuilding, and it was seen as “quasi-fiscal” and the most direct and efficient means to move monies to the economy. Some anticipate PSL to replace some monetary instruments, and the market may view a lower likelihood of an RRR cut in Q1. While lessening external pulls and a sustained decline in core yields point to a lower USD/CNY path, a limited growth impetus and still punishing carry would warrant the inclusion of a risk premium. The USD/CNH spot began at about 7.1747 and moved as high as 7.1800 on Friday. The USD/CNY fix of 7.1029 was lower than the expected 7.1050/1100. Technically, at 7.1700, the pair broke above the 200-day moving average, indicating potential weakness for CNY. All eyes will be on CPI, PPI, and trade balance next week.
JPY Services activity improves, but yen lower across markets. The December Jibun Bank services PMI in Japan was 51.5, up from 50.8 in November. For the first time in four months, the statistics showed a better improvement in economic activity in Japan’s services sector. The increase in activity reflected a higher increase in new business volumes in December. Sharper increases in operational expenditures prompted Japanese service providers to hike their charges at the fastest rate since August. Nonetheless, companies remain confident that activity will increase in the next year, with confidence at its highest level in four months. The USDJPY has outpaced the US yields rally, indicating a wide cross-JPY surge. From technical perspectives, the critical resistance level at 145 level has been breached, with next key level resistance of 150 handle to keep an eye on. Core focus for next week include CPI Tokyo ex food & energy, Tokyo CPI, household spending, overall wage income of employees, and current account.
