Just when you think US stocks may have peaked and can’t move any higher they go and register new all-time highs once again, in what is becoming a fairly regular theme, with the Dow, S&P500 and the Russell 2000 repeating the trick for the second day in a row.

With European markets also posting new multi-month highs as well it would appear that the season of good cheer has come upon us early in the lead up to Christmas, and next week’s offerings from the US Federal Reserve.

Given the result of the Italian referendum it seems completely counterintuitive to be saying that the DAX and the FTSEMib are on course to post their biggest weekly gains this year, begging the question as to what would have happened if there had been a yes vote and Renzi had stayed? Sometimes markets don’t make any sense at all!

Yesterday’s big gains were led predominantly by banks and financials as a steepening yield curve reduced the widespread concerns about margin compression on banks’ balance sheets that were so predominant in the first part of this year.

Against most expectations the European Central Bank once again managed to surprise the markets yesterday by not only extending their asset purchase program, but by also pledging to reduce the monthly purchases amount to €60bn from April 2017, until the end of the year. While ECB President Mario Draghi was insistent it shouldn’t be considered a prelude to further reductions it was hard to escape the feeling that the move was more dovish than hawkish.

This was because of the additional pledges to widen the pool of assets available to buy to include 1-30 year bonds and remove the condition that the bank couldn’t buy bonds with a yield below the current deposit rate of -0.4%, though that’s not too much of an issue at the moment given the recent rise in yields.

Looking at the wider picture all the ECB has done is reduce the monthly asset purchase amount back to the levels it was in March this year, when they were still some concerns that deflation was becoming entrenched. This is clearly not the case now with EU CPI at 31 month highs and therefore the governing council feels comfortable with the idea of reverting back to the original program amount.

The resultant sell-off in the euro speaks to the fact that ECB and Fed policy are likely to be divergent for much longer than bond markets were pricing in 24 hours ago, while the spike in yields speaks to the fact that we could well see further upwards pressure on inflation.

These pressures are no better borne out than by the latest Chinese inflation numbers which came out overnight with producer prices for November jumping 3.3% year on year, to a five year high driven primarily by the recent jump in commodity prices. Three months ago these were negative and had been that way for five years, while CPI also jumped 2.3%, raising the prospect that 2017 could well be the year that inflation may well make a comeback.

While the European banking sector has seen a sharp move higher on the sharp move up in yields on government debt, this will be a double edged sword for indebted European governments, particularly Italy which has a large stock of government debt that will need rolling over next year, and is likely to face much higher rates if these yields are maintained.

On the data front it’s a fairly light day with the latest UK trade data for October due for release, with an expectation that we’ll see the deficit narrow to £4.3bn.     

EURUSD – we got the move towards the 1.0870 area, followed by a sharp reversal back down through the 1.0650 area, and once again opening up the risk of a move back towards the lows earlier this week just above the 1.0500 area. A move through 1.0460 opens up the risk of a move towards parity.

GBPUSD – the pound continues to look a little soft having failed to push through 1.2800 earlier this week. As long as we hold above 1.2380 trend line support from the October lows the uptrend towards 1.2880 should remain intact. Having dipped through Monday’s low the risk is we head back towards this area. Only a move through 1 2300 opens up the potential to revisit the recent lows near the 1.2100 area.

EURGBP – the euro failed to sustain the move higher falling shy of the 0.8600 area before breaking lower, through the 0.8480 level and raising the risk we could be heading back towards the lows last week near the 200 day MA at 0.8290.

USDJPY – currently chopping around below the 115.00 level, with the main resistance near 115.60 and the 61.8% retracement of the 125.85/98.95 down move. Below 112.40 argues for a retest of the 111.20 area.

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