Written by Risk markets are in disarray
Last week’s Fed rate cut and the initial market reaction made investors believe that the Santa Rally would gradually take hold in markets, leading risk assets to new highs. However, since last Friday, US stock indices have been steadily losing ground, led by the Nasdaq 100 index.
Elevated valuations have been a topic of discussion throughout this year, but they seem to affect market sentiment proportionately more at this stage, with investors also ignoring US President Trump’s ‘promise’ that the new Fed chair will support aggressive monetary policy easing during 2026.
Interestingly, many reports pinned the current weakness on the expected 25bps rate hike by the BoJ, threatening the famous carry trade. This could mean that further stock market weakness may be on the cards since the BoJ is seen hiking further in 2026, potentially more aggressively than currently priced in if the March 2026 wage round surprises on the upside.
Notably, cryptocurrencies embody the current weak risk appetite, as they remain under severe pressure, with the bears reacting aggressively to any bullish breakout attempt. Bitcoin is currently trading around $86k, having failed to climb above the pivotal $90k level, and appears vulnerable again. Unsurprisingly, altcoins are underperforming the king of cryptos, setting the scene for a weak end to a very challenging 2025.
On the other hand, gold remains in demand, hovering near its all-time high and appearing to be best positioned to benefit from another bout of risk asset weakness.
US CPI in the spotlight today
Following Tuesday’s mixed labour market data, clearly distorted by the US government shutdown and thus adding little new information to the debate about Fed easing in 2026, the focus shifts to the November US CPI report.
Economists are currently forecasting a small pickup in headline inflation, maintaining the recent upwards trend since the April 2.3% trough, while core inflation is seen steady at 3%. Confirmation of these forecasts or a small upside surprise is not going to alter current Fed expectations, keeping the dollar under pressure. On the other hand, a softer report – potentially matching the deceleration seen in the UK CPI report – may bring forward the next Fed rate cut and result in another episode of dollar weakness.
Central bank meetings first on the menu though
The Bank of England will kick off a busy two-day run of central bank meetings. The market is overwhelmingly convinced that a rate cut will be announced at 12:00 GMT. There will be no quarterly projections or press conference today, which means that Governor Bailey at al. will justify their decision in the statement, and, at the same time, keep the door open to further easing, particularly as the Fed is assumed to be on a steady rate cut path.
Given that the chances of a surprise pause are exceptionally low, the voting result is the pivotal factor for today’s market reaction. With Bailey anticipated to join the dovish camp, there is a question as to whether any of the remaining hawks will also switch sides following Wednesday’s soft CPI report.
A 6-3 result is now the baseline scenario, which is unlikely to prove extremely market moving, while a 7-2 vote would beef up the current 20% chance of another cut in early February 2026, further weakening the pound. On the other hand, a 5-4 outcome, with the hawks ignoring the weaker inflationary pressures, could support the pound. A move in euro/pound towards the 0.8716-0.8733 zone may be on the cards, as the expected 2026 easing is gradually pushed further out.
ECB to remain on hold once again
Compared with the BoE, the ECB meeting is expected to be less exciting. President Lagarde and her team are content with both the inflation and growth outlooks, with the quarterly staff projections confirming this optimism. The usual press conference could attract investor interest, but pending a major communication gaffe by Lagarde, market reaction should be minimal.
Interestingly, Lagarde might be asked about Fed rate cuts and the obvious divergence compared with the ECB, and whether the Fed’s T-bill QE programme could be replicated by the ECB to address any likely liquidity issues. The rate decision will be announced at 13:15 GMT, with the press conference being held 30 minutes later.
By XM.com
