Turbulence Ahead

January 13, 2025
6 min read

Turbulence Ahead

  • USD breaking higher while global stock and bond markets are under downside pressure. Stock markets face more near-term turbulence.
  • This week’s UK economic data releases are unlikely to offer the positive surprise necessary to halt the sell-off in GBP and gilts.

USD made fresh cyclical highs against most major currencies. Solid US economic activity and global stock market correction support the USD uptrend. Stock markets face more near-term turbulence as global bond yields edge higher reflecting in part a less hawkish Fed and ballooning government debts. Moreover, higher crude oil price is an upside risk to global inflation and can worsen the sell-off in the bond market. Crude oil prices rallied to more than a four-month high after the US on Friday ratchet-up sanctions against Russia’s oil trade.

Friday’s US economic data strengthened the case that the bar for additional Fed funds rate cuts is high. Total non-farm payroll employment increased 256k in December (consensus: 165k) vs. 212k in November and above the average monthly gain of 186k in 2024. Moreover, the University of Michigan's survey showed consumers' one-year inflation expectations unexpectedly soared 0.5pts to 3.3% in January, the highest level since May. Inflation expectations 5 to 10 years out also rose to 3.3%, the highest level since June 2008, from 3.0% in December. The New York Fed survey of consumer inflation expectations is up next (4:00pm London).

Fed funds futures imply just one 25bps cut in 2025 vs. almost 50bps before Friday’s data releases. And a 25bps Fed funds cut was pushed out from June to September. Fed Vice Chair Randal Quarles even pointed out overnight that markets are right on rate cut view this year.

GBP/USD is trading near its lowest level since November 2023 and eyeing next major technical support at 1.2000. 10-year UK government bond yields are holding around 4.83%, the highest since August 2008, reflecting deterioration in the UK’s fiscal prospects. This week’s UK economic data releases (November GDP, December CPI, and December retail sales) are unlikely to offer the positive surprise necessary to halt the sell-off in GBP and gilts. Sticky UK services inflation should keep the BOE on a very cautious easing path despite the PMI suggesting economic growth momentum has stalled.

UK Chancellor Rachel Reeves acknowledged the market turmoil sparked by investor concern over the government’s difficult fiscal position. Still, Reeves reaffirmed that the fiscal rules set out in the October budget “are non-negotiable and we will take actions to ensure that we meet those fiscal rules.” The implication is the government may have to announce tax hikes and/or spending cuts when it publishes its Spring economic and fiscal forecast on March 26, further dampening economic activity.

EUR/USD is trading at its lowest level since November 2022. ECB/Fed policy divergence can further weigh on EUR/USD. ECB Chief Economist Philip Lane stuck to the bank’s dovish guidance noting “Probably more monetary easing is going to come in order to make sure the European economy grows.”

USD/CNH is consolidating around 7.3500. China’s trade surplus widened in December to a record $104.84bn (consensus: $100.00) vs. $97.44 bn in November on surging exports. Exports overshot expectations rising 10.7% y/y (consensus: 7.5%) vs. 6.7% in November. Imports recovered 1% y/y (consensus: -1%) after falling -3.9% in November. China cannot rely on exports to sustain a recovery in economic activity especially ahead of possible US tariffs and needs to stimulate consumer spending. Net exports are too small to matter.

 

 

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