Market Watch: December 20

In the U.S., strong retail sales and Purchasing Managers’ Index (PMI) data highlighted robust economic activity, though concerns about tariffs and inflation—particularly regarding 2025 rate cuts—persisted. China’s mixed economic signals, with stabilization in the property market but weaker broader activity, added to global uncertainty. Central bank decisions were pivotal this week; the U.S. Federal Reserve’s (Fed) rate cut forecasts signaled fewer cuts in 2025 due to persistently sticky inflation and a strong labour market, while the Bank of England’s (BoE) dovish hold contributed to volatility. The eurozone’s PMI data showed improvement, particularly in the services sector, hinting at potential European Central Bank (ECB) monetary easing. Political uncertainties in Europe, especially in Germany and France, also weighed on investor sentiment, alongside fluctuating commodity prices and currency movements.

Highlights:

U.S. markets returned -1.97%,¹ influenced by strong retail sales and PMI data, persistent inflation concerns, and the Fed’s hawkish rate cut projections, which collectively highlighted robust economic activity and led to increased market volatility.
Canadian markets declined -2.60%² for the week, driven by mixed economic data, including lower-than-expected inflation and strong retail sales, alongside political uncertainty following the finance minister’s resignation and concerns over the fiscal deficit revealed in Ottawa’s Fall Economic Statement.
European markets returned -3.37%³ for the week as political instability in Germany and France, improving PMI data suggesting potential ECB monetary easing, and fluctuating commodity prices led to a volatile backdrop.
Emerging markets closed -3.22%⁴ following a stabilization in the Chinese property market despite weaker overall activity, alongside policy signals suggesting a more proactive fiscal stance and “moderately loose” monetary setting.

Forward guidance leads bonds lower, Feds preferred inflation gauge brings them back up

Fixed income markets experienced significant movements due to central bank actions and economic data releases. The Fed’s rate cut, coupled with hawkish projections for fewer cuts in 2025, led to a rise in bond yields as investors adjusted to the prospect of prolonged higher rates. This shift was driven by persistent inflation and a robust labour market, which suggested a slower pace of easing. Friday’s Personal Consumption Expenditures (PCE) reading showed a slight decrease in inflation, which provided some relief to bond markets and contributed to a pullback in yields. The BoE’s unexpected dovish hold, despite strong wage growth, caused U.K. gilt yields to fluctuate as markets reassessed future rate cut expectations. In the eurozone, improving PMI data, particularly in the services sector, hinted at potential ECB monetary easing, which supported European bond prices. Political instability in Germany and France further influenced bond markets, with investors seeking clarity amid fluctuating commodity prices and currency movements.

Highlights:

The 2- and 10-year U.S. Treasury yields were 13 and 23 bps higher respectively. In Canada, the 2-year yield was 11 bps higher while the 10-year yield rose 20 bps. Bond yields and prices move inversely to one another.
Friday’s PCE reading showed a slight decrease in inflation, with both headline and core PCE slowing to 0.1% month-over-month, providing some relief to bond markets and contributing to a pullback in yields..
Credit spreads widened throughout the week amid a risk-off sentiment but are still trading at relatively tight levels. Both investment and speculative grade bonds are expected to book negative returns for the week mainly due to the weakness in rates.

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Canadian inflation dips back below BoC’s 2% target

Canada’s inflation rate dipped below the Bank of Canada’s 2% target for the second time in three months. According to Statistics Canada (StatCan), the Consumer Price Index (CPI) rose at an annual rate of 1.9% in November, down from 2% in October. Analysts were expecting inflation to hold steady. On a monthly basis, the CPI was unchanged in November from October.

Highlights:

The report showed price pressures were subsiding on several fronts. StatCan noted that Black Friday sales contributed to lower prices for furniture, footwear and clothing. Prices for cell phone plans fell 6.1% in November.
Mortgage interest costs rose 13.2% year over year but are down from peak increases of roughly 30% last year.
On a three-month annualized basis, the Bank of Canada’s preferred measures of core inflation rose 3.2% and 3.3%, respectively, heating up considerably over the past two months.

Fed signals plan to slow rate cuts after quarter-point reduction

The U.S. Federal Reserve (Fed) agreed to cut interest rates by a quarter-point but signalled greater doubt over how much and how fast it would reduce them going forward. The latest reduction, which was approved by 11 of 12 Fed voters, will lower the Fed’s benchmark federal funds rate to a range between 4.25% and 4.5%, a two-year low.

Highlights:

The Fed cut rates at its two previous meetings, beginning with a half-percentage-point reduction in September amid signs the labour market might be weakening. Officials approved a quarter-point cut last month.
New projections show officials expect to make fewer rate reductions next year, with most pencilling in two cuts for 2025 if the economy grows steadily and inflation continues to decline. In September, officials had pencilled in around four cuts for next year.
Officials also pencilled in fewer cuts in 2026, which would leave the fed-funds rate at 3.4% in two years, up from 2.9% in September’s projections.

Bundesbank cuts German growth forecasts, warning of escalating protectionism

Germany’s central bank drastically cut its economic growth forecasts for next year and warned of heightened uncertainty due to the possibility of rising trade protectionism. The Bundesbank said in its twice-yearly report that it now expects just 0.2% economic growth in Germany in 2025, well below the 1.1% it predicted in prior forecasts made in June. Its forecast for this year is a decline of 0.2%, the second yearly decline in a row.

Highlights:

“The German economy is not only struggling with persistent economic headwinds but also with structural problems,” Bundesbank president Joachim Nagel said, impacting the industrial sector in particular, as well as its export business and investments, he noted.
The central bank president also warned of the threats to global trade and geopolitical conflicts, with risks tilting to even weaker economic growth and higher inflation.
This could further erode the industrial sector, which hasn’t recovered to pre-pandemic levels, following a combination of ending its reliance on cheap Russian gas after the start of the war in Ukraine, slowing global demand for its goods, particularly from China, and weaker consumer confidence that is driving Germans to save more.

by Scotia Wealth Management

Market Watch: December 20

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