Financial markets ended last week on a solid risk-on note, mainly due to increased central bank activity. The stock market, in particular, echoed the bullish mood and solidified its position in response to the Fed’s dovish stance. This sentiment has driven major indexes such as DOW, DAX, and CAC to new all-time highs. Despite a gradual decline over the weekend, these indexes remained at high levels, confirming the positive market reaction.
In foreign exchange markets, the US dollar was the biggest loser, largely influenced by the Fed’s outlook for a cumulative 75 basis point interest rate cut next year. This change in the Fed’s stance had a significant impact on the dollar’s position relative to the Fed.
European currencies also appreciated against the dollar, but lagged behind other major currencies. The ECB and BoE’s resistance to speculation of an imminent interest rate cut did not have much of an impact on market sentiment as their messages appeared to be falling on deaf ears.
The Japanese yen stands out as the strongest currency and is poised for further appreciation in the near term, although much will depend on future Bank of Japan policy decisions. The Australian dollar is the second strongest currency after resource currencies, and if the risk-on trend continues, further appreciation may be expected.
Fed hints at rate cuts, ECB and BOE take cautious stance
The Fed’s “stunning” dovish turn last week had a significant impact on financial markets, as evidenced by the new economic forecast. These forecasts indicate that monetary policy is expected to ease significantly in 2024, with a total rate cut of 75 bps. This adjustment would lower the federal funds rate from its current range of 5.25% to 5.50% to a lower range of 4.50% to 4.75%.
Market reaction to this anticipated easing was swift and decisive. Federal funds futures, a key indicator of market sentiment and expectations, currently have a 58.5% probability of the first 25bps rate cut occurring as early as May 2024. But market sentiment doesn’t stop there. Traders are pricing in more aggressive easing, with a more than 75% chance that the Fed will cut rates further into the 3.75% to 4.00% range by the end of next year. This expected move would represent a significant 150 bps reduction from current rates.
In contrast to the Fed’s apparent willingness to ease monetary policy, the ECB and BoE have adopted a more cautious approach, resisting expectations of rate cuts in their respective regions in the near term.
Despite their differing monetary stances, it seems almost certain that the ECB and BoE will begin easing policy next year, although the pace and scale are yet to be determined. The latest PMI data from the euro area and the UK provides some context for this outlook. The data suggests that UK economic growth remains sluggish, while manufacturing and services in the euro area continue to contract.
The only question is who will cut rates first and who will do it sooner.
DOW, DAX, CAC hit record highs
Global stock markets rose sharply due to expectations for monetary easing. Last week, the DOW, DAX, and CAC all hit record highs. From a technical perspective, the near-term outlook for the Dow remains bullish as long as support at 26292.58 holds. The next targets are 100% expected from 32327.20 to 38378.54 to 28660.94 to 34712.28.
The key question for DOW is whether it can maintain enough momentum to reach the 40,000 level soon. This is close to the medium-term target of 61.8% forecast from 28,660.94 (2022 low) to 42,041.65 to 18,213.65 (2020 low) to 3,695.65 (2022 high). .
The DAX soared to 17003.27, but fell back in reaction to the poor PMI data to close at 16751.43. For now, further gains are favorable as long as the support at 16595.10 holds. The next target is expected by 61.8% from 14,630.21 to 17,513.87 to 11,862.84-16,528.97. The discontinuation of 1695.10 support brings integration first. However, for further upside to occur, the return will need to be contained above the 55D EMA (currently at 15919.20).
As long as 7529.10 remains supported, CAC is expected to rise further. The next targets are 61.8% expected from 6773.81 to 7980.66 and from 5628.41 to 7581.25, with a psychological level close to 8000. A break at 7529.10 will lead to an initial consolidation. However, the pullback should be capped above the 55D EMA (currently at 7255.17) as the trend resumes.
US 10-year bond yield exceeds 4%, dollar index resumes decline in short term
The yield on the U.S. 10-year Treasury note accelerated its decline from 4.997 last week to 4%, ending at 3.928. Technically speaking, the current levels are ideal territory for recovery. D RSI shows an oversold condition. At 3.919 there is a 61.8% retracement from 3.253 to 4.997, the 55W EMA (currently 3.952), and long-term channel support. However, it still needs to break through the 4.293 resistance to indicate a near-term bottom. Otherwise, the temporary recovery will be short-lived.
Meanwhile, continued trading below 3.919 paves the way to the 3.253 cluster support (38.2% retracement from 0.398 to 4.997 at 3.24) as a correction to the overall uptrend from 0.398 (2020 low) Probably.
The dollar index’s decline from 107.34 resumed last week with a break above 102.46 after failing to extend the rebound to the 55D EMA. A further decline is expected from the initial 101.24 to 104.26 to a predicted 61.8% from 107.34 to 102.46. A solid break there would lead to a 100% prediction at 99.38, which is close to the major support level of 99.57.
The bigger question is whether DXY’s decline from 107.34 restarts the overall downtrend from 114.77 (2022 high) or as the second leg of a consolidation pattern from 99.57. The latter case has the advantage for now, as the ECB is also on track to cut interest rates next year, and the euro’s outperformance against the dollar shouldn’t last too long.
Therefore, the strong support from 99.38/57 is expected to cap the downside and end the decline from 107.34, leading to a rebound. A break at 104.26 would argue that the third leg of the corrective pattern may have begun.
AUD/USD, USD/JPY, USD/CNH
The second-biggest price mover last week was AUD/USD, which rose by 1.84%. Technically, the break in the medium-term channel resistance supports the case that the entire decline from 0.7156 was completed in three waves to 0.6269. The rise from 0.6269 appears to be the third leg of the pattern from 0.6169 (2022 low). The near-term outlook is bullish as long as support at 0.6524 holds, with resistance at 0.6894 first. If there is a decisive break there, the next step will be a further rally to the resistance at 0.7156.
Last week’s biggest mover was USD/JPY, which closed -1.91% lower. This development is in line with the view that the rise from 127.20 has already been completed at 151.89. The decline from 151.89 appears to be the third leg of the pattern from 151.93. As long as the resistance at 146.58 persists, the outlook will remain bearish. The next target is 136.63, a 61.8% retracement from 127.20 to 151.89. A continued break there will pave the way to 127.20 support (2022 low).
USD/CNH tried to break out of the 38.2% retracement from 6.6971 to 7.3679 at 7.1117 last week, but failed again. Nevertheless, the near-term outlook will remain bearish as long as the support at 0.7119 holds. The decline from 0.73679 is tentatively considered as the third leg of the pattern from 7.3745. A sustained break at 7.7117 would confirm this view and pave the way for the 61.8% retracement below at 6.9533. If realized, a prolonged decline in USD/CNH would provide further support for AUD/USD appreciation and put downward pressure on USD/JPY.
EUR/USD weekly outlook
EUR/USD rose to 1.1008 last week, but failed to break through the resistance at 1.1016 and fell back. The initial bias remains neutral this week. As long as the 1.0722 support holds, further upside is expected. A break through 1.1016 will resume the overall rally from 1.0447 and retest the high of 1.1274.
In perspective, the price movement from 1.1274 is seen as a corrective pattern up from 0.9534 (2022 low). The rise from 1.0447 is seen as the second leg. Although further upside cannot be ruled out, the upside should be limited to 1.1274 to bring about the third leg of the pattern. On the other hand, a continued break of the 1.0722 support would argue that below 1.0447 the third leg has already begun.
In the long-term situation, the long-term bottom is at the bullish convergence condition of M MACD at 0.9534. It is still too early to call for a reversal of the bullish trend as it remains within the descending channel. Nevertheless, if it continues to trade above the 55 million EMA (currently at 1.1073) and breaks through the resistance at 1.1274, a reversal becomes likely and we would target the resistance at 1.2348 for confirmation.