2023 Weekly Update

Market update

The S&P 500 closed the week at 4,697.24, -1.80% lower. The Dow Jones closed at 37,466.11, -0.65%, with the Nasdaq lower by -3.78%. The volatility index VIX closed the week at 13.35 up from 12.45. The Euro Stoxx 600 slipped -1.61%.

The 10-year UST closed at 4.05% up from 3.88% a week before. The yield curve is inverted with the yield spread between the 3-month and 10-year UST at -135bps. US Corporate Bond spreads: Investment Grade widened 3bps at 175bps and High Yield widened 20bps at 395bps. German 10-year Bunds yield closed at +2.16% up from +2.02% a week before. In Europe, Corporate Investment Grade spreads widened 6bps at 155bps and High Yield spreads tightened 2bps to 396bps.

The US Dollar Index (DXY) appreciated +1.06% last week and closed at 102.41. The Euro closed at 1.0943 (-0.87%); the Yen depreciated -2.55%, closing at 144.63 and the Swiss Franc depreciated -1.02%, closing at 0.8500. Gold closed at $2,045.45 depreciating -0.85%. Oil was higher, Brent closed at $78.76 (+2.23%) and WTI at $73.81 (+3.01%).

Macroeconomy

Jobs report

The US economy added 216k jobs in the month of Dec. according to the BLS (Bureau of Labor Statistics) Establishment survey, higher than the 175k forecast. Revisions were negative (employment in Oct. and Nov. combined is 71k lower than previously reported). The BLS Household survey showed a huge 683k drop in employment, a dramatically different story than the +216K Establishment number. According to the Establishment survey, employment continued to trend up in government, health care, social assistance, and construction, while transportation and warehousing lost jobs. Government employment rose by 52k in Dec. (the monthly gov’t average in 2023 was 56k, more than double the pace from 2022). The unemployment rate was 3.7% in Dec., flat vs. Nov. and a bit below the 3.8% forecast. The participation rate dropped meaningfully, falling to 62.5% in Dec. from 62.8% in Nov. This was driven by a decline in the civilian labor force to 167.451M (vs. 168.127M in Nov.). Average hourly earnings growth accelerated to +4.1%, up from +4% in Nov and above the Street’s 3.9% forecast. However, the workweek shrank to 34.3 hours (down from 34.4 in Nov., and below the 34.4 forecast). As a result of the smaller workweek, average weekly earnings only advanced 3.8% y-o-y.

Fed meeting minutes

The minutes of the Dec. Fed meeting did not offer any pointers to imminent Fed easing, with little in the way of a discussion of rate cuts that Powell had alluded to in the press conference. There was also some pushback on the recent easing of financial conditions as “many participants remarked that an easing in financial conditions beyond what is appropriate could make it more difficult for the Committee to reach its inflation goal”. However, there were some dovish-leaning elements, “a number of participants highlighted the uncertainty associated with how long a restrictive monetary policy stance would need to be maintained, and pointed to the downside risks to the economy that would be associated with an overly restrictive stance”. There was some discussion of the Fed’s Quantitative Tightening (QT) path, as several participants suggested that it would be appropriate “to begin to discuss (…) a decision to slow the pace of (balance sheet) runoff well”. In terms of fedspeak, Richmond Fed President Barkin described the March decision as a “long way away” and said that “I try not to prejudge meetings”. Over the weekend, Dallas Fed President Logan warned that the recent easing in financial conditions risks causing an inflation reacceleration (which could warrant an additional rate hike) but also suggested the time is approaching for the Fed to begin considering a slowdown in the pace of QT.

Inflation in Europe

Eurostat's flash estimate showed that euro area headline inflation rebounded to 2.9% y-o-y in Dec. from 2.4% the previous month, in line with expectations. Core inflation eased to 3.4% in Dec. from 3.6% in Nov., also in line with expectations. While a full breakdown of the data will not be published until 17 Jan., the information published revealed that energy base effects were the main driver of the Dec. pick-up in headline inflation, while food and non-energy industrial goods inflation eased somewhat. Services inflation was stable at 4.0% in Dec. Apart from HICP data, final PMI numbers for Dec. were published. After an encouraging 1.1 points increase in Nov., the preliminary composite PMI report for the euro area had shown a 0.6 point drop in Dec. from the previous month. However, the final PMI figure for Dec. shows no change. This still leaves the composite PMI at a weak level (47.6), consistent with stagnant growth.

US data

ISM manufacturing index for Dec. remained in contractionary territory for a 14th consecutive month, coming in at 47.4 (albeit slightly above the 47.1 expected). Moreover, the new orders component fell back to 47.1, marking a 16th consecutive month in contractionary territory. The December services ISM fell from 52.7 to 50.6 (vs 52.5 expected), its weakest in seven months, and with a dramatic decline in the employment subcomponent from 50.7 to 43.3, which is its weakest level since the initial Covid disruption in 2020.

China PMI

Chinese official manufacturing PMI declined for the fourth consecutive month to 49.0 in Dec., from 49.4 in Nov. and missing consensus of 49.6. The official non-manufacturing PMI inched up to 50.8 in Dec., from 50.7 in the previous month, on stronger construction activities. Overall, the composite PMI came in at 50.4 in Dec., compared to 50.2 in Nov. The decline in the manufacturing PMI was broad-based amid continued weaknesses in external demand. The new export order sub-index for large firms marked the lowest reading since April 2022. Meanwhile, the related production sub-index moderated further to 51.5 in Dec., down from 53.1 and 52.1 in October and Nov. respectively. On a slightly positive note, manufacturing activities in SMEs rebounded in Dec., following the slump in Nov. The Caixin manufacturing PMI, whose sample tilts towards small and midsize enterprises, ticked up to 50.8 in Dec., up from 49.5 and 50.7 in the previous two months.

Highlights

Rates volatility

Regarding rates expectations, at the end of 2023, futures were fully pricing in a Fed rate cut by March, but after last week’s data, expectations had been dialed back to a 66% probability. Likewise at the ECB, the chance of a cut by March has fallen from 65% at the end of 2023, to 48% today. Clearly, investors are still pricing in a Q1 rate cut as more likely than not, but there’s been a bit more doubt last week as to whether the aggressive rate cuts priced for 2024 will end up happening. In terms of rates, having closed at 4.00% on Thursday, US 10yr Treasury yields almost touched 4.10% immediately after the payrolls print on Friday, before soon reversing and trading as low 3.95% after the services ISM. However, the bond sell-off dominated in the end, with the 10yr closing at 4.05% (+4.6bps), its highest level since the December FOMC. Over the week, the 10yr yield was up +16.7bps, its largest rise in 11 weeks. The 2yr yield was up +13.1bps to 4.38%. European rates saw a similar sell-off last week, with 10yr bund yields up +13.4bps over the week to 2.15%, their highest level in nearly a month (+3.2bps Friday). OATs (+13.9bps) and BTPs (+15.3bps) saw slightly larger sell-offs during the week. It was Gilts that led the bond sell-off, with the 10yr yield up +25.0bps over the week (+6.0bps Friday) helped by several stronger data releases.

What to watch

• Monday: Eurozone retail sales (Nov.), EC business surveys (Dec.); Germany factory orders; trade balance (Nov.)
• Tuesday: Germany IP (Nov.); US NFIB Small business optimism (Dec.)
• Wednesday: China monetary aggregates (Dec.)
• Thursday: US CPI (Dec.); Initial jobless claims (Jan. 6)
• Friday: China CPI; trade balance (Dec.); US PPI (Dec.)