Inflation flares, yields rise: What to watch as the Fed walks the tightrope
The post-election rally in U.S. equity markets lost momentum last week as fresh inflation data raised concerns about the Federal Reserve’s next move. While the bond market now expects a near-certain 25 basis-point rate cut at the Federal Open Market Committee (FOMC) meeting on Dec. 17-18, some fixed-income investors worry that this could be a costly policy misstep. The yield on 30-year Treasury bonds rose sharply last week, climbing 28 basis points, signaling apprehension about the Fed’s trajectory (Source: CNBC).
Chief Investment Officer Thierry Hasse
CPI data holds the spotlight
On Dec. 11, the U.S. Bureau of Labor Statistics released November’s Consumer Price Index (CPI), revealing a 2.7% year-over-year increase. This result aligned with market expectations but highlighted that inflation remains persistently above the 2% target. Many economists anticipate the inflation rate to resume its long, slow decline. Yet widespread price increases in categories such as groceries, healthcare and housing raise fears of an inflationary revival akin to the 1970s. A premature easing of monetary policy by the Federal Reserve could exacerbate this risk.
Bond market signals trouble ahead
Yields rose across the curve last week, with the 10-year Treasury yield climbing to 4.4%, surpassing the 3-month Treasury yield for the first time since 2022 (Source: CNBC). The end of the inverted yield curve reflects growing conviction among investors that rate cuts may pause as early as January 2025. Federal Reserve Chair Jerome Powell will likely face tough questions about the Fed’s longer-term rate plans during his Dec. 18 news conference.
Equities show cracks beneath record highs
Despite record-breaking levels in the broader U.S. stock market, signs of strain are emerging. The rally, fueled by enthusiasm for artificial intelligence and cryptocurrencies, is masking broader sector weakness. The S&P 500 has experienced a streak of days where more of its components declined than advanced, suggesting growing fragility (Source: Bloomberg). Historically, equity markets struggle to sustain gains when a majority of stocks are losing ground.
The week ahead: Fed decision looms large
We expect that the outcome of the Dec. 18 FOMC meeting and Powell’s subsequent remarks will dominate the week’s financial news. While the market expects a modest rate cut, Powell’s comments about the central bank’s 2025 policy direction could have a more profound impact on markets than its immediate decision on interest rates. The Fed continues to walk a tightrope, where it must balance its inflation-fighting goals with the need to support economic growth. As with a high-wire act, missteps can be costly.
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