Rate Cut Expectations Trimmed

For the week ending 5 January 2024

As of midday Friday, global equities fell during the week as investors pared back bets that developed market central banks will begin trimming interest rates in the first quarter. The yield on the US 10-year Treasury note rose to 4.00% from a year-end level of 3.88% amid the heavy issuance of US investment-grade debt, strong US employment data and the anticipation of a slower pace of rate cuts. The price of a barrel of West Texas Intermediate crude oil rose $2.20 to $74.80 amid the continued disruption in Red Sea shipping traffic and on the shutdown of a Libyan oil field due to protests. Volatility, as measured by the Cboe Volatility Index (VIX), rose from 12.50 at the end of 2023 to 13.50. 

MACRO NEWS

US yields rise after strong December payrolls

Markets pared back bets that the US Federal Reserve will begin cutting rates as early as March as December nonfarm payrolls rose a stronger-than-expected 216,000 and unemployment held steady at 3.7%. Average hourly earnings rose 4.1% year over year. Ahead of the data, yields had been rising all week amid the heavy issuance of US investment-grade corporate debt, but the employment report helped send yields briefly toward 4.1%. A sizable downward revision of 71.000 jobs of the prior two months nonfarm payrolls took a bit of the sting out of the strong December report. The odds of a March cut fell to 60% after ending 2023 at 100%. 

Soft service sector data cheer bond bulls

US purchasing managers reported a sharp slowdown in orders in December, dragging down the Institute for Supply Management’s nonmanufacturing PMI to 50.6 from 52.7 in November. The unexpectedly weak showing saw bond yields reverse their early losses and drop back below 4% from near 4.10% after the upbeat employment report. 

Red Sea disruptions reintroduce supply chain kinks

Repeated attacks on global shipping in the Red Sea by Houthi militias have prompted shippers to reroute around Africa much of the freight that would normally transit the Suez Canal, delaying and making more expensive the transportation of goods flowing between Asia and Europe. Meanwhile, tensions in the region mounted further as Iran moved a warship into the Red Sea and the United States, Great Britain and Australia pledged to hold “malign actors” accountable if the attacks continue. The cost to transport a typical 40-foot shipping container by sea has doubled to above $4,000, according to Reuters, with shipments to the Mediterranean now costing as much as $6,000. A trip round the Cape of Good Hope takes between 7 and 20 days longer. US imports are being impacted, as well, with upwards of 30% of cargo arriving on the US East Coast typically traveling through the Suez Canal. If persistent, higher costs could put upward pressure on inflation. 

FOMC minutes set stage for rate cuts — eventually 

The minutes of the December meeting of the Federal Open Market Committee dampened market expectations that the Fed could cut rates as early as March but laid the groundwork for easier policy as 2024 progresses so long as inflation continues to ease. The minutes show that members felt it appropriate for the committee to begin discussing slowing the pace of quantitative tightening. However, many members noted that an easing in financial conditions beyond what is appropriate could make it more difficult for the Fed to reach its inflation goal. Conditions eased dramatically in the final months of 2023 but have tightened modestly so far in 2024 as stocks have declined and bond yields rose. 

QUICK HITS

Amid a phaseout of energy subsidies for consumers and businesses, eurozone inflation rose 2.9% year over year in December, up from November’s 2.4% pace. That’s the first rise in six months, though the core measure continued to decline, falling to 3.4%. 

An earthquake in the Sea of Japan early on New Year’s Day killed at least 84 people and heavily damaged parts of Japan’s Ishikawa prefecture. The yen weakened this week amid speculation that the Bank of Japan would delay for months any move to normalize its negative interest rate policy in the wake of the tragedy, maintaining the current ultra-easy policy to cushion the country’s economy. 

This week the US national debt rose above $34 trillion for the first time. 

China’s President Xi Jinping, in a New Year’s address, said China’s reunification with Taiwan is inevitable. 

International Monetary Fund Managing Director Kristalina Georgieva said Tuesday that the US economy is “definitely” in line for a soft landing after the Fed raised rates without pushing the economy into recession. 

In 2023, according to data compiled by Bloomberg, the US overtook Qatar and Australia to become the largest global exporter of liquified natural gas.

The Federal Reserve Bank of St. Louis appointed former New York Fed economist and hedge fund manager Alberto Musalem as its president after the departure of James Bullard. Musalem is a native of Bogota, Colombia.

Just over a week before Taiwan’s presidential election, the final polls show Vice President Lai Ching-te of the Democratic Progressive Party, which supports Taiwan’s independence, leading the more Beijing-friendly Kuomintang party’s Hou Yu-ih by an average of five percentage points and the Taiwan People’s Party’s Ko Wen-je by 12%. The DPP’s Tsai Ing-wen has held Taiwan’s presidency since 2016 but is barred from running for a third term. 

US money market assets rose to just shy of $6 trillion this week, according to data from the Investment Company Institute. 

In a sign that the US labor market is cooling, job openings in November fell to 8.79 million from 8.85 million in October. That’s the lowest level of unfilled job openings in more than two years. However, weekly jobless claims data show that layoffs remain low, having fallen to 202,000 in the final week of 2023. 

Canada’s unemployment rate held steady at 5.8% in December, with net employment unchanged.