US data in focus as investors look for direction

The week started on a mixed note. Market mood in Europe was rather subdued, with major indices trading flat to negative as China announced tariffs of up to 43% on EU dairy imports. Even the energy- and mining-heavy FTSE 100 failed to eke out gains yesterday, despite a rally in the energy and metals complex.

Heightened tensions with China are nothing new, but the fact that Chinese producers are diverting exports to markets outside the US — including Europe — is clearly fuelling tensions across the Old Continent, which is already grappling with its own cost-of-living crisis.

One could argue that cheaper Chinese imports help tame inflationary pressures. They certainly do. The problem, however, is that they make European-made products relatively more expensive than they already are, weighing on local businesses and jobs.

And I’m not only talking about local cheese makers and French bistros. I’m also referring to the continent’s growth engines — such as major French and German carmakers — which largely missed the EV transition and are now being squeezed by Chinese competition. Chinese EVs are flooding European markets, often offering better software and technology for cheaper prices, while traditional European carmakers are left watching consumers prioritise innovation over luxurious interiors.

Europe is also missing the AI turn in real time. It has no Big Tech platforms, few major innovations and instead operates under a heavy regulatory framework. At the same time, the money is running out.

And now, European tariffs on Chinese goods are starting to backfire, with Beijing retaliating in kind. This escalation is unlikely to bode well for what lies ahead and could further weigh on European growth next year.

More broadly, the Trump-style trade playbook is contaminating global trade. The key difference is that the US has massive AI and tech investment to offset anaemic growth elsewhere. Europe does not. European watches, handbags and luxury cars rely heavily on US and Chinese consumers. Should these pillars weaken, alternatives are scarce. Technology is not a solution — ASML alone cannot lift an entire continent — and the defence sector, which powered this year’s equity rally, may have already captured much of its upside. While higher defence budgets will support military equipment makers, fiscal constraints will eventually reassert themselves. Spending there is unlikely to match Big Tech’s investment in data centres and chips.

So what’s next? Market consensus still points to further rotation into cyclical names — an area where Europe could continue to benefit, supported by relatively lower borrowing costs — alongside reduced exposure to technology, which is increasingly weighing on global risk appetite. However, renewed trade tensions with China could derail what little optimism remains around European growth.

This is not an exaggeration. One of Europe’s weakest-performing economies — the UK — just printed 0.1% growth in Q3, if one can even call it growth. Three months of near stagnation justify the use of the word “miserable”.

Looking at sterling’s performance, one could barely tell that the Bank of England delivered a rate cut and that several weak economic indicators were released — with more weakness likely following a growth-negative budget. But this is less about sterling strength than about broad-based dollar selling.

The dollar has been under pressure for several reasons. Since Donald Trump took office, concerns around fiscal discipline, trade tensions, waning demand for US Treasuries as reserve assets, and increasingly dovish Federal Reserve (Fed) expectations have all weighed on the greenback.

In the very short term — since yesterday — the dollar has also come under pressure from a sharp retreat in the USDJPY, following Japanese authorities’ warnings that the move had gone too far, too fast.

Beyond short-term noise, the USD outlook remains comfortably negative into next year. Bullish calls on the dollar are rare, aside from some large banks forecasting a stabilisation in the second half of next year. That alone raises the question of whether much of the dollar weakness is already priced in.

As such, any data or news that prompts a hawkish reassessment of Fed expectations could trigger a sharp dollar rebound.

All eyes are now on the final US data releases of the year, with the Q3 GDP revision and PCE inflation — the Fed’s preferred gauge — on the menu ahead of the Christmas break. US growth is expected to have exceeded 3% in Q3, with AI-related investment accounting for a significant share, while price pressures are expected to have firmed. A combination of stronger growth and higher inflation could revive the Fed’s hawks, unless the more up-to-date PCE data proves soft enough to bolster the dovish camp.

At present, Fed funds futures price roughly a 20% probability of a rate cut in January and slightly above a 50% chance of a cut in March. Any increase in expectations for further easing would support equity valuations, though cyclical and non-tech segments are likely to benefit more than richly valued Big Tech.

As for the Santa rally — typically defined as the last five trading days of the year and the first two of the next — which has delivered an average gain of around 1.6% since 1928, odds still favour upside. That said, any meaningful correction could well materialise in January.

Much will therefore depend on the final data prints of the year and investors’ reaction. This year has been full of twists and turns: tech-led gains, but also a clear rotation toward non-tech segments. If anything can put a floor under a potential tech sell-off, it is the hope that the rally continues to broaden beyond technology.