Asian shares rise as gold hits record high, economic data to test rate cut expectations

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4th December 2023 – (Sydney) Asian shares began the week on a positive note, while gold prices reached another record high. The market is bracing for a busy week of economic data that will put to the test expectations of early and aggressive interest rate cuts by major central banks next year.

Investors are closely watching the U.S. November payrolls report, scheduled to be released on Friday. The report needs to show solid job growth to support the notion of a soft landing for the economy, without being too strong as to jeopardize the chances of rate cuts. Median forecasts predict a rise of 180,000 in payrolls, keeping the unemployment rate steady at 3.9%.

However, many analysts believe that the risks are skewed to the upside, with Goldman Sachs projecting an increase of 238,000 jobs, including workers returning from strikes, and a jobless rate of 3.8%.

In addition to economic data, geopolitical tensions are also in focus. There is a risk that the Israel-Hamas conflict could escalate into a broader confrontation, as three commercial vessels were attacked in the southern Red Sea.

The MSCI’s broadest index of Asia-Pacific shares, excluding Japan, rose by 0.6%, driven by gains in South Korea and Australia. Meanwhile, Japan’s Nikkei dipped 0.4% as the yen continued to strengthen.

In the futures market, S&P 500 futures remained flat after reaching a 20-month high on Friday, while Nasdaq futures declined by 0.2%. The S&P 500 has gained 19% year-to-date and is just 4% away from its all-time peak.

The recent surge in stock markets has been fueled by expectations that the Federal Reserve will cut interest rates. Fed Chair Jerome Powell’s reluctance to push back against market pricing for aggressive rate cuts has further strengthened these expectations. Futures now imply a 71% chance of a rate cut as early as March, up from 21% a week ago, with around 135 basis points of cuts expected for 2024.

The decline in Treasury yields has been remarkable, with two-year yields falling 41 basis points in just a week, the best performance since the mini-crisis in U.S. banks in March. Yields on 10-year notes currently stand at 4.22%, down 29 basis points from last week and significantly lower than the October peak of 5.02%.

Bank of America’s global economist, Claudio Irigoyen, predicts a soft landing for the U.S. economy with below-potential growth for the next six quarters. He expects the Fed to start cutting rates by 25 basis points per quarter from June until reaching a terminal rate of 3% in 2026. Irigoyen forecasts that the yield curve inversion will come to an end, with year-end 2024 rate projections of 4.00% for two-year Treasuries and 4.25% for 10-year Treasuries.

Such an outlook is positive for emerging markets, with BofA noting that the 12 months following the last Fed rate hike have seen highly positive returns for emerging market equities, averaging around 10%, and even higher returns for total emerging market bond investments.

Central bank meetings in Canada and Australia this week are expected to result in unchanged interest rates.

The decline in Treasury yields has put pressure on the dollar, particularly against the yen, which fell 1.8% last week and was last trading at 146.47. Speculation about the eventual unwinding of the Bank of Japan’s ultra-loose policies has added to the pressure on yen carry trades, potentially pushing the Japanese currency back to its July highs around 138.00.

The euro had been gaining ground but faced a setback last week when surprisingly weak inflation data led markets to price in a rate cut by the European Central Bank in March. Bundesbank President Joachim Nagel pushed back against this view in an interview over the weekend, but with inflation falling rapidly, the market believes that the ECB will have to ease policy to prevent real rates from rising.

ECB President Christine Lagarde will have an opportunity to comment on the matter in a speech and Q&A session later today.

While the decline in yields and the weakening dollar have benefited gold, which hit a record high of around $2,076 per ounce on Monday, oil prices have faced challenges. There are doubts about OPEC+’s ability to maintain planned output cuts, and U.S. oil production remains at record levels above 13 million barrels per day, with rig counts still rising.