Markets

Yesterday’s PMI releases in Europe and the US confirmed the ongoing divergence in growth on both sides of the Atlantic, cementing market expectations on similar divergence in Fed and ECB policy. The S&P global US flash PMI showed output growth at the end of the year at a 33-month high (56.6 from 54.9) amid a service sector surge. Manufacturing remains in contraction territory (PMI at 48.3 from 49.7). US firms expectations’ of output in the coming year also reached the highest level in two-and-a-halve years, also driven by services. This translated in higher employment for the first time in five months. At the same time, price pressures cooled further, with prices charged rising at the slowest level since they started to rise in June 2020. This excellent report was no reason at all for markets to change expectations on Fed policy going forward. US yields changed less than 1 bp across the curve. Earlier yesterday, EMU PMI’s showed activity contracting for the second month in a row, but at a slower pace (49.5 from 48.3), with services retuning in positive territory. However, orders and employment continued to decline. Despite poor activity, EMU costs continue to rise mainly due to higher wages in the services sector. Despite this stagflationary context, ECB members including Chair Lagarde and board member Schnabel indicated the ECB will be able to cut interest rates further as confidence is growing that inflation is on track to reach the 2.0% goal. ECB’s Wunsch in an interview was reported that the ECB broadly feels comfortable with current market pricing. After last week’s ‘rebound’ German yields declined up to 2 bps at the short end of the curve. The dollar briefly spiked higher after the strong US PMI, but gains could not be sustained (DXY close 106.85 from 106.98, EUR/USD 1.0512 from 1.0495). Sterling regained part of Friday’s setback despite a mixed PMI report (EUR/GBP close 0.829 from 0.831).

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Today’s US November retail sales are expected to confirm a decent momentum in spending (0.6% M/M headline 0.4% M/M control group). The report most likely is no game-charge but might confirm that the Fed has time to assess upcoming developments and shouldn’t be in a hurry to cut rates further after tomorrow’s expected 25 bps reduction. In EMU/Germany ZEW and IFO confidence are expected to confirm the lackluster picture from yesterday’s PMI’s. Both US and EMU short-term yields might have reached a short-term equilibrium. The US 2-y yield (4.25%) hovers in the middle of the ST 4.08%/4.38% trading range. The EMU 2-y swap (2.19%) end last week rebounded off the 2.05%/2.0% support area, but there is no reason for markets to already raise the bottom of the ECB rate cut cycle near 1.75% that is currently discounted. So further upside in EMU ST yields might be limited for now. The dollar recently showed no clear trend, but its downside probably remains well protected. At the time of finishing this report, higher than expected UK wage/earnings data (5.2% Y/Y) trigger some further GBP gains (EUR/GBP 0.827).

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Canada’s minority government is on the brink of collapse after deputy and Finance minister Freeland handed in her resignation, including some parting shots in her resignation letter. The Canadian government is struggling to find a common answer to US president-elect Trump’s 25% tariff threat on Canadian goods. Freeland argues in favour of keeping the fiscal powder dry today, so we have the reserves we may need for a coming tariff war. That means eschewing costly political gimmicks, which we can ill afford and which make Canadians doubt that we recognize the gravity of the moment.” The latter is a snap at Trudeau’s short-term spending on things like tax breaks to please voters. Freeland quits just as she was supposed to give an update on the nation’s fiscal and economic situation. The latter showed a C$62bn deficit in the last fiscal year, way above Freeland’s pledge to keep it below C$40bn. The Loonie weakened further against a stronger dollar with USD/CAD (1.4270) reaching its highest level since Q1 2020.

The French central bank (BdF) lowered its growth outlook for next year and for 2026 to 0.9%-1.3% from 1.2%-1.5% in September. The uncertain political context is dampening consumer and business confidence. The BdF thinks that household spending will only accelerate moderately after being lackluster in 2024 and that the contribution from investment will remain negative. A study by the central bank showed that relying on the emergency legislation currently being debated in parliament to continue to function with taxes remaining unchanged and minimal spending from Jan 1st would significantly increase next year’s budget deficit (from an estimated 6.1% of GDP this year).