Growth slowdown worries sent US stocks and bond yields lower. Dow, S&P 500, and Nasdaq Composite fell 1.8%, 1.6%, and 1.2%, respectively. Fed Presidents James Bullard (St Louis) and Loretta Mester (Cleveland) favoured the Fed Funds Rate rising above 5.1% (the median forecast in December’s Summary of Economic Projections) this year. However, the US Treasury yields retreated farther below the Fed Funds Rate range of 4.25-4.5% to their lowest levels since September. The 10Y yield fell 18 bps to 3.37%, while 2Y eased 12 bps to 4.08%.
US industrial production was weaker-than-expected at -0.7% MoM in December vs the -0.1% consensus; November was revised to -0.6% from -0.2%. Similarly, capacity utilisation fell to 78.8% (vs 79.5% consensus) in December from 79.4% (revised from 79.7%) in November. Given that Fed cuts followed deeper falls in capacity utilisation in the past, it was understandable why Bullard feels an urgency to frontload rate hikes to restrictive territory above 5%. Intuitively, this implies a second 50 bps hike at the FOMC meeting on 1 February, more than the 25 bps consensus.
Currency markets are finding it challenging because falling inflation is converging with growth risks in the US. The DXY’s sell-off in November came after the Fed’s last 75 bps hike; the 10Y yield’s fall below the FFR reflected optimism that inflation had peaked and was falling. Despite soft landing optimism from a tight labour market and better consumer sentiment, the UST2Y yield fell below the FFR after the 50 bps hike in mid-December. Although the Fed wants to keep policy restrictive after rates peak, markets are betting the Fed would cut rates in late 2023 on the US economy entering a technical recession. For now, DXY is capped at 102.9 (Bank of Japan’s disappointment yesterday) and supported at a trendline of around 101.5. We reckon this range would hold as China and many Asian countries celebrate the Lunar New Year.
Quote of the day
“Worry never robs tomorrow of its sorrow, it only saps today of its joy.”
Leo Buscaglia
19 January in history
Japan and the US signed the US-Japan Mutual Security Treaty in 1960.
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