Weekly Market Update - Top dollar prices provoke pullback

The latest economic news and market highlights from the UK and abroad.

The key takeaways

📈 US Fed wobbles markets – Chair Powell’s message of fewer cuts next year overshadowed the lowering of interest rates to a 4.25%-4.5% target. GDP growth and retail sales both surprisingly came in above expectations, and the Fed’s projections of both inflation and GDP have moved higher. 

📊 Bank of England sits tight – rates remained the same at 4.75% against a stagflationary (slow economic growth, relatively high unemployment, and rising prices) backdrop of higher prices and lower growth. CPI (Consumer Price Index) rose to 2.6% in November, an eight-month high – due to both base effects and the hike to tobacco duties. 

☔ It’s raining Yen as Japanese currency slides – the Bank of Japan held off from raising rates, avoiding what could have been another unwind of the carry trade. Whilst inflation has jumped to a seven-month high, Governor Ueda is seeking more clarity on Trump’s policies and wages before committing to an interest rate hike. 

🎄 US Congress cancels Christmas spending bill – a public intervention by Donald Trump and his ally Elon Musk disrupted a bipartisan deal to temporarily raise the debt ceiling, leaving the government on the brink of a partial shutdown.

The Chicago Board Options Exchange (CBOE) Volatility Index, often referred to as Wall Street’s fear gauge, surged 74% on Wednesday, the second biggest percentage rise in its history. The uncertainty and retreat of risk appetite in markets came after the US Fed said it will likely lower interest rates just twice next year. This is down from the four cuts it projected back in September. This afternoon’s Core PCE (Personal Consumption Expenditure) release will be watched closely, and could provide some relief to markets if it signals inflation is less sticky than feared. 

Whilst risk assets have broadly fallen back this week, they're still strongly ahead over 2024. As we look ahead to 2025 there is much to be uncertain about, be it the path of rate cuts, the growth of the economy, Trump’s tariffs or conflicts in the Middle East and Ukraine. It's only with perfect hindsight that we can say whether it's a time to be optimistic or a time to batten down the hatches, and perhaps more specifically where the risk and opportunity lies. A well-diversified portfolio of assets, that can provide both downside protection and upside capture, across a range of regions and markets, looks as attractive as ever. 

It's time to place your notional new year bets on currency swings, earnings growth, and trading relations for the year ahead. But as this week shows, you can sleep better in 2025 and beyond if your bets are hedged.

Chart of the week

Source: Bloomberg, forecasted change versus spot level as of 13 December 2024.

One of the big market stories of 2024 has been the strength of the dollar, which is heading for its biggest annual rally since 2015. Gains fuelled by Donald Trump's election victory and a resilient US economy have rallied the greenback to its highest level since 2022.

The extent of the rally has raised speculation that we may have reached peak dollar, and could see a sharp snapback in the year ahead. Concerns over US federal spending grow louder, with 2025 forecast to be the third straight year of budgetary deficits in excess of 6% of GDP. This could weigh on confidence, and prompt investors to look elsewhere for returns. 

If the sell-side analysts are proven right, the swing from dollar strength to dollar weakness will have wide impacts across markets and assets. It could herald another period of rotation, with a different set of winners and losers to those we've become familiar with over the last year.

Dow Jones down again: all major US indices took a dive this week after the Fed press conference. Whilst the S&P 500 and Nasdaq have recently been supported by a tech-focused bump, the Dow Jones Industrial Average has suffered its longest losing streak since 1974. 

FTSE falls: UK stocks declined along with the rest of the market, against a gloomier domestic backdrop. The Bank of England warned that most economic indicators have weakened since their last report, and UK GDP is projected to stagnate in the final quarter of the year.

Hang Seng hangs in there: Hong Kong stocks were slightly less troubled by the global sell-off, thanks to new guidelines aimed at enhancing the value of state-owned enterprises, and a reduction in service fees for dividend payouts.

More currency woes for Tokyo: over 2% of this week’s decline in Japanese stocks can be attributed to Yen weakness, and the Bank of Japan's (BOJ) failure to raise rates. Whilst the Japanese currency has now fallen to its weakest level against the dollar since July, exports have benefitted with 3.8% annual growth. 

Bonds retreat: both UK Gilt and US Treasury yields climbed above 4.5% this week due to sticky inflation. This was partially driven by cost inputs from the Budget in the UK and a rise in wage growth to 5.2%. Economic strength is propping up inflation expectations in the US, with year-on-year GDP growth of 3.1% in Q3 and Fed projections of 2.5% annual growth in Q4.

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