The new trading year heralds in animal spirits and a taste for risk

It’s been a strong start to the new trading year, risky assets that are positively correlated to economic growth have had a strong start and US bond yields have surged. After its huge 13% gain on Monday on the back of better news about Q4 deliveries, Tesla shares have fallen on Tuesday and are down some 4% so far. Amazon is down more than 1.5% and even Apple, which surged to a $3 trillion valuation on Monday, the first American company to do so, is also nearly 1% lower on Tuesday. The Nasdaq is bucking the trend, and is down more than 1%, which is suggestive of a new theme for markets: out with the old and in with the new. As Covid fears get laid to rest for now, stocks that did well during the pandemic are falling out of favour, while banks and airlines, which underperformed during the pandemic are surging ahead. 

Why the FTSE 100 is the toast of Europe 

Animal spirits are infectious, and other major world indices are also higher at the start of Europe’s trading week. The FTSE 100 is up 1.6% and is currently outpacing its European counterparts. We think that this is happening for a few reasons. Firstly, markets have no taste for more Covid restrictions and thus will reward countries that resist the urge to lockdown or bring in new restrictions. The UK has not imposed any new Covid-related restrictions, even though case rates are rising to 200,000 per day. European indices have experienced more modest gains on Tuesday, as some European countries remain in lockdown as the EU struggles to lay out a clear path of whether the currency bloc wants zero covid or if it wants to learn to live with the virus, like its neighbour across the English Channel. The second reason why we like the FTSE 100 over other European indices is because of its strong selection of growth sensitive stocks. The energy sector, banks and airlines have all surged in the UK on Tuesday. The top performers in the FTSE 100 include IAG, the parent of British Airways, which is more than 11% higher, with BP, Barclays and InterContinental Hotel Group making up the top four performers on Tuesday. In contrast, the biggest losers on the FTSE 100 include some of the biggest winners at the peak of the pandemic, including Ocado, AstraZeneca and Rentokil. The FTSE 100 likes it when animal spirits are running high, the question now is, how long can it last? According to Bank of America analysts, stocks have risen in the first trading week of January for 11 of the last 13 years, thus we expect the FTSE 100’s outperformance to continue as we progress through the week.

Market gets over fears of Omicron and inflation 

The twin concerns that spooked markets at the end of last year: The Omicron Covid variant and inflation and Fed rate rise fears have not had lasting effects. Even though Omicron case rates are running wild  across the world, the medical data so far suggests that this variant is milder and thus, markets have weighed up that the risk this variant poses to economic growth is not of great concern. We believe that with each new wave of Covid, and there will be further waves this year, financial markets are able to get over them faster, and we expect this to continue to happen.

Why payrolls still matter for the Fed 

Inflation fears and the timing of the first Fed rate hike remains a top priority for traders, however, with most economies open and ready for business there are signs that investors are beginning to see potential US interest rate increases as a good thing as it suggests economic strength. This is the positive backdrop as we start the trading week, however, watch out for this week’s payrolls report that is released on Friday. The market is expecting a whopping 400k jobs created in December, although some of this increase will be due to seasonal hiring. The market has started to make peace with the idea that the Fed has actively put the jobs market on the back burner and is instead fully focused on inflation as they decide the timing of their first rate hike. However, jobs data still matters as it could determine the speed of a Fed rate hiking cycle, something that the market is yet to agree on. A stellar payrolls figure for December could put pressure on the Fed to speed up rate hikes. We would note that financial markets have already pushed forward their expectations for the first Fed rate hike to March, with a nearly 58% chance of a rate hike already priced in. The question for traders: will a strong payrolls report dent risk sentiment as the market starts to worry about a speedy Fed rate hiking cycle? 

The dollar is king, long live the king… 

In the FX space, the dollar index was relatively flat on Tuesday, although momentum seems to be on the upside as the US currency is buoyed by surging Treasury yields. The 10-year Treasury yield had its largest daily jump in 12 years on Monday, and 2-year yields are now trading at 0.75%. This has boosted the dollar, and USD/JPY is at its highest level since January 2017.  Momentum remains strong for the dollar, and we expect more upside in USD/JPY and EUR/USD in the majors. We also think that the dollar could do well against emerging market currencies as we move through the first quarter. Once again USD/TRY is rising and was up more than 2% on Tuesday. We think that until the central bank of Turkey starts to hike interest rates then the lira remains at risk from more selling pressure.