The market is working through three main themes that are all significant departures from what markets were thinking about at the turn of the year.
1) Better global growth
The reopening in China, good weather in Europe and a resilient US consumer are all upside surprises in the past few months and the market is getting a handle on exactly what that will mean for global growth but the path is certainly better than a it looked in November. That's not particularly new but for a period it looked like it would be enough for a soft landing, now the market is looking at something better than that -- no landing at all and/or a quick reacceleration. That's good for growth-sensitive assets but it may come with a cost like ...
2) Higher interest rates
A week ago, the Fed funds market was flirting with 3.50% for next year but with a resilient consumer and global growth, that's coming into question. Instead, the Fed may stay at 5% for longer. That may have drawn a line under Treasury yields for now and if the Fed shifts back towards a hawkish path or puts further hikes beyond 5.25-5.50% on the table, then the market may go back to pricing in a hard landing, just this time in 2024 as built-up consumer excess savings run out.
3) Bigger picture disinflation is back
The AI revolution is here and it will mean an explosion in productivity and many layoffs to go with it. It's a powerful deflationary force the ensures the 2020s won't look like the 1970s. It means that whether the Fed hikes to 5% or 6%, it's all ammunition for cuts later. The problem is that it's tough to predict when 'later' will be. With the two factors above, you don't want to be trading off those future cuts while the market is mulling the likelihood of 6% and a 2024 hard landing.
What it means for markets
In most markets, this all looks like a tough balancing act but there are exceptions. Better global growth is an upside risk to commodity prices and we're seeing that in oil over the past three days. It also justifies the recent rallies in steel and copper; and those commodities all have secular tailwinds as well. In the stock market, companies with clean balance sheets and exposure to AI should be resilient as well.
In FX, many of these factors are better for emerging markets, especially the commodity exporters or those that could benefit from reshoring.
However there is plenty of reason for overall uncertainty and right now we're seeing that reflected in volatility and
