Emerging picture: Federal Reserve on the path to normalisation

Markets

Stocks are displaying signs of recovery after a challenging start to the year.

The S&P 500 and Nasdaq Composite are notably in positive territory, with investors springing to life, driven by the resurgence of large technology stocks. The 10-year yields spent most of the day trading below 4%, contributing to the positive sentiment.

While the week was expected to start quietly, traders quickly regained confidence, especially ahead of Thursday's release of the US Consumer Price Index (CPI). If current cooling estimates hold, the month-on-month increase is anticipated to be 0.3%, marking the slowest pace of annual core price growth since May 2021. This is expected to be perceived positively for risk markets, reinforcing the optimism for market-based rate cuts.

A clean read from Friday's data was not readily ascertainable for a consensus "group think," with some flying blind while others saw a crystal clear soft landing path; hence, markets were clearly unclear to start the week. Nonetheless, it would be reasonable to argue that the overall evidence from Friday's data tends to lean more towards signalling economic deceleration in a Goldilocks type of way.

With growth and inflation remaining subdued, the emerging picture suggests a Federal Reserve that is normalizing and likely to cut rates this year, possibly as soon as March or May if inflation cooperates. The critical debate now revolves around the pace and intensity of this follow-through. Thursday's US CPI report is anticipated to be crucial in providing further insights. Still, the market's reaction to consensus or slightly below prints remains uncertain, especially with softer inflation whisper numbers circulating.

For index investors, maintaining harmony could still be a precarious struggle. The current situation for stocks is slippery, with little support expected from near-term growth. There's a dilemma: if the economy slows down, it could adversely affect earnings growth, but if the economy accelerates, it might delay rate cuts and impact richly valued tech stocks and other stock multiples.

The key is finding the perfect equilibrium —economic deceleration that keeps inflation in check and aligns with the Federal Reserve's rate-cut trajectory without cliff-edging into a hard landing scenario. It's akin to the Goldilocks scenario, where everything needs to be pinpointed for the market's optimal performance.

Oil market

The oil prices plunged, racking losses between 3% and 4% after Saudi Aramco significantly reduced official selling prices for its crude oil for February delivery across all markets. Weak demand fundamentals influenced this decision in the global physical oil market. While the price cuts were widely anticipated, they turned out to be larger than analysts had forecasted. Asia refiners were applying pressure for competitive cargoes from Saudi Arabia, which were at a premium compared to crude oil supplied from other regions.

This move by Saudi Aramco is also interpreted as an effort to regain lost market share amid steep production cuts implemented by OPEC+. Non-OPEC supply, particularly from the US, has filled the void of reduced OPEC+ production.