GEMFOREX - weekly analysis

A triplex of high-risk market-impacting data items was released this past week, but they seemed to be market-friendly enough. Investor response, though, appeared to be everything but amicable. As a result, risk sentiment is still negative at the beginning of the week leading up to Christmas. The safe-haven dollar is undercut by indications of equities market stability, though several reasons could limit the decline.

At the FED meeting last week, US central bank officials predicted that borrowing prices will rise by at least another 75 basis points by the end of 2023 to combat inflation. The rates on US Treasury bonds should continue to benefit from this, and the demand for the USD should increase. The FED claims that the recent spike in US inflation is just transitory and mostly the result of the base effect following the sharp price decrease that occurred last year during the shutdown.

However, underneath the apparent justification, rapidly increasing commodity prices, consumer demand, and significant federal spending may be changing the overall pricing structure. The S&P500 fell for the second week in a row, although there had been some optimism last week that it may recoup the previous week's losses. US markets ended the week substantially down.

Even while the Fed is still anticipated to continue raising rates, there is still uncertainty as to how much it will do so because markets are now pricing at a much lower level than FOMC members would want. CPI inflation has been declining steadily since June. That response alone would seem to indicate that markets were more alarmed by what the ECB was suggesting than the Fed, whose language, although plausible, does not align with what the numbers are telling us about inflation.

That optimism was rapidly dashed by last week's central bank meetings, but it is not yet apparent whether the ECB's or the Federal Reserve's unduly hawkish tone startled the markets.

After a mostly uneventful start to the month of December, we witnessed strong drops in European markets last week because of the market's reaction to the European Central Bank's hawkish rate turn on Thursday. Additional hawkish comments from ECB officials doubling down on the same narrative and predicting at least three more rate increases of 50 basis points through Q1 2023 added to these worries. Concerns are being raised about the ECB's assertive tone because it raises the possibility that it might add another economic shock at a time when the economy is heading into a recession.

Additionally, we observed a strong rise in borrowing rates across the European bond markets, which drew harsh condemnation from senior Italian government officials, as Italian 10-year yields ended the week with about 46 basis points, or 4.28%, higher. Given the negative effects higher rates have on the most heavily indebted regions of the Euro area, this has long been the weak spot of any ECB interest rate strategy. Due to the size of its bond market, the country's public debt, which is above 145% of GDP, and the need for lower rates to maintain its interest expense as low as possible, Italy is more vulnerable than others.

In Asia, markets had a rough start to the week, but the declines were moderated by Chinese officials' promises to concentrate on growing the economy in the coming year, despite the dramatic increase in covid infections. Even though China has relaxed its tight COVID-19 regulations, a substantial increase in new infections could postpone the complete reopening of the economy. This in turn feeds concerns about a deepening global economic crisis, which might dampen market optimism and encourage haven-seeking flows toward the dollar.

The Japanese yen rose in Asian trade on reports that we may be on the verge of a pivot on their current easy monetary policy, towards a slightly tighter posture, although it is unlikely to happen much before Q2 of next year. The markets in Europe appear set for a modest rebound ahead of today's Germany IFO and tomorrow's Bank of Japan meeting.

The economic calendar for this week will include many statistics that will dictate the market sentiment going into 2023.

On Monday, we expect the IFO Business climate report for the EUR, and tomorrow on Tuesday sees the Bank of Japans Interest Rate and Policy meeting and decision. The next important topics to investigate are the Consumer Confidence report for the EUR as well as the USD, and the Canadian CPI, coming out a little bit earlier on Wednesday. On Thursday, GDP metrics are coming out for both the Pound and the Dollar, as well as the National CPI metric for the land of the rising Sun, Japan. To finish off the week, on Friday we expect important metrics from North America, namely the CPCE reports for the USD, as well as Durable Goods Orders. To finish off the week, we will also find out the GDP metric for Canada.

After retail sales unexpectedly declined by more than anticipated in November, investors should take one more look at the final week before Christmas to determine whether consumer confidence in the US is beginning to feel the consequences of the growing cost of living. Along with the most recent Core PCE statistics for November, the consumer confidence numbers for December may be helpful in that sense. Happy new week!