After continued hawkishness from the Federal Reserve, Bank of Canada ECB this week, bond yields across the yield curve lifted measurably to last week.  I have summarized the changes in the U.S. Treasury Yields, a key indicator, below:

You will note that there has been a considerable lift in market expectations for rates to remain elevated for the long term.  However, you will also note that despite the lift in the last week the consensus in the short-term (2 years or less) remains that rates will decrease considerably from where they are now.  Moreover, the 6-month expectation for the direction of interest rates remains relatively unchanged, reinforcing the narrative for mid-year cuts.  

On a positive note, the lift in long-term bond yields provides a buying opportunity. If you have yet to consider adding a long-term bond position to your portfolio or are sitting on cash that you have been waiting to deploy, now would be an excellent time to allocate these funds to long-term bonds.  The coupon interest payments on 5 and 10-year notes remain attractive, especially relative to dividend equities that come with more relative volatility.  Our RBC Economics group’s most recent Financial Markets Monthly: New Rules does an excellent job of highlighting our expectations for the direction of rates and compares this current rate cycle with those in the past.  I strongly recommend the read.

It was reassuring to see on Thursday that the minutes and commentary from the Bank of Canada's January 24th meeting reflected a majority opinion that the question is now not about cutting rates, but when to cut. (BNN Bloomberg)  Provided inflation continues its downward trajectory through the next several months, this should give the BoC the "green light" to begin cuts.  As noted in the Financial Markets Monthly article above, we do not anticipate cuts to come until mid-year (June/July 2024). When they do arrive, a decrease in interest rates will loosen a very tight credit market and hopefully ease concerns for a housing market that has seen affordability issues escalate. Fortunately, modest positive GDP data last week and labour data released on Friday (RBC Economics) reflect a Canadian economy that may be experiencing a plateau – though more data is needed to support that theory.  A decrease in the unemployment rate from 5.9% last month to 5.7% in January is certainly a step in the right direction to support an improvement in labour productivity, and therefore economic growth in Canada. 

Adding to what turned out to be a good day for economic data on Friday, U.S. CPI data for December saw a downward revision in the month over month increase from November to 0.2% (previous 0.3%). (Yahoo Finance) Annualizing this figure for the month of December reflects an annual rate of inflation of 2.4% - which means the U.S. is trending much closer to its target and several more months of similar data should give the Federal Reserve the confidence it needs to cut rates mid-year.  On an annualized basis from January-December 2023 inflation in the U.S. was 3.9% - well above target, but the PCE Price Index which is the preferred indicator by the Federal Reserve reflected a 2.9% YoY increase in December. There is sufficient rationale for keeping rates elevated as they are, but Friday’s data revisions provide further proof that inflation remains on a downward trend. 

In Europe, the optimism for a lower rate environment was somewhat dashed this week as the ECB reported a steady lift in wage inflation for the region. (BNN Bloomberg)  This has forced the ECB to remain steadfast in its position to keep rates elevated, fearing that the progress they’ve made on bringing inflation down in the region may be undermined by persistent wage growth.  December inflation in the Eurozone came in at 2.9% and it is expected to decline to 2.8 in January, however, wage inflation in the region rose by 5.2% in the last quarter of 2023 which could spark an uptick in inflationary pressure.  

Finally, as China continues to manage a real-estate crisis that threatens its long-term economic growth and a lack of investor confidence, it continues to focus on challenging U.S. hegemony. Despite U.S. sanctions put in place last year to curb the import of chip manufacturing technology to China, Huawei and SMIC are helping Beijing build a new generation of microprocessors. (Yahoo News) The AI chip technology that Huawai currently has in development could rival those produced by U.S. tech giant Nvidia. This underscored the U.S.'s urgency to innovate in the AI technology sector - an industry that is still in its infancy.  Interestingly, these developments and other policy restrictions on foreign technology (i.e., the government's ban on government employees' use of Apple phones in their offices), have put Huawei back on top as China's smartphone sales leader.