By Jamie McGeever
ORLANDO, Florida (Reuters) -U.S. stocks, bond yields and the dollar all fell on Thursday, dragged down by renewed fears of an AI bubble and worries over the strength of the U.S. labor market.
More on that below. In my column today I look at life for markets after the global rate-cutting cycle, which appears to be turning. Will it signal a bullish period for earnings growth and stocks, or a tightening of liquidity and greater risk aversion?
If you have more time to read, here are a few articles I recommend to help you make sense of what happened in markets today.
Today’s Key Market Moves
Today’s Talking Points
* Navigating the U.S. jobs fog
Normally, investors now would be gearing up for the October U.S. non-farm payrolls report scheduled for release on Friday. But the record-long U.S. government shutdown means there will be no data. Some numbers have come out this week though, and it’s very much a mixed bag.
ADP private sector job growth numbers for October were stronger than expected, but Challenger layoffs nearly tripled, and the Chicago Fed said the unemployment rate has ticked up a notch to 4.4%. Cost-cutting and AI are dark clouds over the labor market, which is already foggy enough.
* U.S. money market tightness
There was some respite on Thursday as Fed rate cut expectations ticked up, but worries around U.S. interbank and money market liquidity continue to swirl. Of course, the Fed is watching this like a hawk – no pun intended – and will surely step in if they have to.
But as TS Lombard puts it, things are “uncomfortably tight” – a government shutdown, a Treasury General Account build draining funds from the system, high front-end rates, and the SOFR-IORB spread widening. Add in ongoing QT for now and seasonal balance-sheet constraints, “and the ingredients for a funding-market flare-up are all there.”
* Trump’s tariff travails
The legality of U.S. President Donald Trump’s tariffs – his flagship economic policy – is in doubt as U.S. Supreme Court justices decide whether the 1977 International Emergency Economic Powers Act (IEEPA), which Trump has invoked, covers tariffs.
Trump on Thursday for the first time acknowledged that U.S. consumers “might be paying something” when it comes to tariffs. That “something” has been pretty low so far this year, but is now rising – economists reckon consumers will be eating around two-thirds of the total tariff bill by next year.
Markets brace for life after global easing cycle
The global interest-rate cutting cycle has likely peaked. The question now is when, or if, today’s high-flying markets will start to feel the pinch.
Remarkably, there have been more rate cuts around the world in the last two years than during the 2007-09 Global Financial Crisis, according to Bank of America. Although that’s the number of cuts and not the magnitude of easing, it reflects the scale of the historic inflation-fighting rate hikes in 2022-23.
But the cycle now appears to have turned. This doesn’t mean global easing has stopped. Central banks – most notably the U.S. Federal Reserve – are still expected to cut further. Rather, the number of cumulative cuts will decline moving forward.
On the face of it, the end of super-easy monetary policy should mean less accommodative financial conditions ahead.
But, perhaps counterintuitively, history suggests otherwise. Peaks in the last three major global easing cycles were followed by a broadening of the earnings cycle and solid equity market gains.
Are we about to see this again? Maybe, but given the frothy valuations in many of today’s markets, it’s not a given this time around.
LESS CONCENTRATION, MORE ROTATION
The peak of the easing cycle could be a bullish signal for Wall Street, say analysts at Societe Generale, who argue that it is a sign that earnings growth is going to broaden out and accelerate.
Manish Kabra, head of U.S. equity strategy at SocGen, says the cycle peak is a “powerful signal” to diversify into other areas of the market like small caps and less levered stocks. He notes that reducing equity exposure would typically come later when investors start pricing in the start of the hiking cycle.
“When the easing cycle peaks, it’s traditionally a sign of market conviction that earnings growth is going to accelerate,” Manish says, pointing to previous “peaks” in August 2020 and September 2009 – which were both followed by strong equity performance.
Of course, there’s a big difference between now and these episodes, namely today’s stock prices and valuations. Wall Street was only beginning to emerge from historic crashes in September 2009 and August 2020, whereas now it has never been higher.
This might suggest that a more defensive risk profile may be warranted today.
Kabra downplays talk of bubbles, however. S&P 500 earnings growth this year is running at around 12%, but if you exclude ‘AI boom’ stocks, that falls to only 4%.
IT ALL COMES BACK TO LIQUIDITY
Almost every major asset class has risen this year, apart from oil, the dollar and some long-dated bonds. Even unloved and much-maligned U.S. Treasuries have gotten a bounce.
But globally, these rallies have had many different drivers. In equities, the AI boom has been rocket fuel for Wall Street, bets on a defense spending splurge have boosted European stocks, and the prospect of significant fiscal easing has lifted stock prices in Japan and China.
However, the unifying force that has lifted all these boats, according to Standard Chartered, is liquidity. And plenty of it.
Eric Robertsen, the bank’s global head of research and chief strategist, says the broad rally from the April lows, impacting stocks, bonds, commodities and cryptocurrencies, can be deemed a ‘financial conditions trade’. How else can nearly every asset class rise together in a world of extreme economic and geopolitical uncertainty?
Of course, ‘liquidity’ is not solely or even primarily a function of monetary policy. Bank reserves, the availability of and demand for private sector credit, and general risk appetite are key factors that contribute to the rather amorphous concept that is ‘liquidity’.
But if interest rate changes can be viewed as a loose proxy for liquidity or at least a directional signal, then we are at an inflection point.
Robertsen posits that the “abundant” liquidity from well over 150 rate cuts in the last 12 months has more than offset investors’ concerns over growth. Their risk appetite may be put to the test if the liquidity taps are being turned off, even if only gradually.
“Can markets thrive at this altitude without additional oxygen?” Robertsen asks.
We may be about to find out.
What could move markets tomorrow?
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Opinions expressed are those of the author. They do not reflect the views of Reuters News, which, under the Trust Principles, is committed to integrity, independence, and freedom from bias.
(By Jamie McGeever; Editing by Nia Williams)
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