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European markets set for a pause after subdued US finish

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After a poor start to the week European markets continued their rebound yesterday, led by the FTSE100, which has led the way higher since the start of the year, driven higher by a combination of rising commodity prices, as well as higher yields.

Yesterday’s outperformance saw the FTSE100 hit its highest levels since late January 2020, led by the likes of BP, which has seen a gain of 15% so far this year, followed by Barclays, which is up by over 13%.

US markets underwent a more subdued session, finishing the day higher although off their intraday highs although the Russell 2000 closed lower, after the latest US CPI report for December came in at its highest level in almost 40 years at 7%. Core prices came in a little lower but were still at 31-year highs of 5.5%, however bond market reaction to these numbers was surprisingly muted.

This may have been because the numbers were broadly in line with expectations, and weren’t a surprise, while we also saw a modest decline in energy prices. An unexpected side-effect was some significant US dollar weakness, which saw the US dollar index slide to a one month low.

Following on from some weaker than expected China PPI and CPI numbers a few hours before, which showed a surprising decline in December, yesterday’s market reaction could raise the hope that perhaps global inflationary pressures might be starting to diminish.

This seems a little premature on the basis of one month’s numbers, however this afternoon's US PPI could add an extra quiver to that argument if we see a similar trend in today’s December numbers.

PPI has tended to be a leading indicator for headline CPI for most of last year, and is already well above CPI levels. In November US PPI jumped from 8.8% to 9.6%, and is expected to rise further to 9.8%, while core PPI is expected to rise from 7.7% to 8%. If these numbers come in lower than expected we could well see some further straw clutching.

The change in sentiment over the course of the past few days would appear to owe much to the testimony on Tuesday of Fed chair Jay Powell at his reconfirmation hearing as Fed chairman when he said that while the Fed was ready to raise rates this year, on the subject of balance sheet reduction he was more circumspect, saying it wouldn’t be done in a manner that might be destabilising.

It remains to be seen how long that line will hold in the face of continued rising prices, and calls from Fed officials that perhaps we could see 4 rate rises this year and not 3 as previously guided.

We also have the latest weekly jobless claims which unexpectedly rose last week to 207k from 198k the week before, while continuing claims are expected to fall back to 1.73m.

Having heard from a variety of hawkish Fed speakers in the past few days, we’ll also be hearing from permanent Fed governor Lael Brainard, and new Fed vice chair when she appears in front of the Senate Banking Committee later today. Brainard has tended to lean more to the dovish side so her views on the rate path are likely to be significant, when it comes to the number of rate rises needed. We’ll also get to hear from the Richmond Fed’s Thomas Barkin and Charles Evans of the Chicago Fed.   

EUR/USD – has finally broken higher through 1.1385, triggering stops through 1.1420, breaking the down trend line from the June highs, with the potential to move up towards 1.1520. Support now comes in at the 1.1385 area.   

GBP/USD – looks set for a move towards the 1.3740 area and the 200-day MA, having broken above trend line resistance from last year’s peak at 1.4250. Support remains at 1.3420 and last week’s lows.

EUR/GBP – still appears to have decent support at the 0.8330 area, but the bias remains lower towards 0.8280 and the 2020 lows. Resistance comes in at the 0.8380 level and behind that at 0.8450.

USD/JPY – slipped below support at the 114.70 area opening up the prospect of a move towards 113.70 cloud support. The 114.80 area should now act as resistance.

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