It will be a holiday-shortened trading week due to the Christmas holiday. Markets in the US will close early on Christmas Eve, December 24th, at 1 PM Eastern and remain closed all day on Wednesday, the 25th. Most markets in Europe will be closed on the 25th and 26th, while a few markets in Asia, including Japan and China, will remain open for the entire week. Due to the holiday, economic data this week will be sparse.
We will not have any Fed speakers, but the Treasury will still issue debt, with 2-year, 5-year, and 7-year Treasury auctions scheduled this week. These auctions should be closely watched, especially given the weaker auctions seen over the past few weeks.
Two weeks ago, we had a 30-year auction that didn’t go well, followed by a disappointing 5-year TIPS auction last week. This has contributed to rising rates on the curve, as longer-duration auctions have struggled. These upcoming auctions, scheduled for 1 PM on the 23rd, 11:30 AM on the 24th, and 1 PM on the 26th, could bring volatility to equity markets, especially if they don’t perform well. If the auctions go smoothly, we may see less impact on the markets.
Last week, the PCE report came in a tenth below estimates across the board. While the year-over-year number met the Fed’s 2.8% estimate on the SEP for the end of this year, revisions remain uncertain. However, these numbers don’t appear to have significantly impacted the Fed’s outlook, as they align with projections from the recent SEP.
Based on Dec CPI swap pricing, inflation is expected to run hotter this month. The Fed funds overnight index swaps were relatively stable, closing Thursday at 3.96% and Friday at 3.95%. This indicates that the market didn’t anticipate additional rate cuts based on the PCE data. Two-year inflation expectations also finished flat, reinforcing the idea that the data was largely a non-event for markets.
Friday’s equity market movement seemed more influenced by options expiration and the negative gamma environment, which amplifies volatility. The S&P 500 returned to the 61.8% retracement level, reversed, and then declined. A significant factor in the decline was the QYLD ETF selling Nasdaq covered calls for January’s expiration date, combined with $10 billion in market-on-close sell orders, creating considerable selling pressure in the afternoon.
Given this week’s holiday-shortened schedule and thin global market activity, liquidity will likely be even more limited. Moves could become exaggerated due to lower participation and limited news flow.
Regarding the 10-year Treasury yield, it has broken out to the upside, with 4.75% as the next major resistance level and 4.50% as support. On the 10-2 year2s/10s}} curve, a bear steepener could drive the spread higher. The curve could potentially narrow to 15 basis points from its current level of 21, while still respecting the breakout from last week’s flag pattern.
The dollar index continues to strengthen, although it sold off on Friday, partly due to yen volatility following the BOJ meeting and euro strength.
The euro dropped over 1% on Wednesday but recovered 70 basis points on Friday. Resistance for the euro remains at 1.045; as long as it stays below this level, a move toward parity seems likely.
For the S&P 500, Friday’s move included a touch of the 10-day moving average, which acted as resistance. The index closed near the 50-day moving average, making it difficult to call. The lower Bollinger Band is no longer as oversold as earlier in the week, but conditions are still ripe for further downside. The 10-day moving average will be a key level to watch—remaining below it suggests continued declines, while a break above it could push the index toward 6,050.
The Nasdaq 100 similarly hit its 10-day exponential moving average before failing to break higher. It remains above the 50-day moving average, which serves as a support level.
On the weekly chart, the Nasdaq 100 bounced off its 10-week exponential moving average, a key support level near 21,000. However, a bearish engulfing pattern formed on the weekly chart, which could signal a potential trend change.
We also saw easing in financial funding costs. The BTIC January contracts fell to 181 bps on Friday, down from 227 bps at their peak before the Fed meeting. While these costs are still elevated compared to December 12th levels of 160 bps, they have eased significantly over recent sessions.
Finally, as we approach year-end, keep an eye on the Fed’s reverse repo facility, which saw declining volumes after the Fed adjusted its rate. Unlike previous year-end periods, activity in the reverse repo facility hasn’t increased, likely due to the recent rate changes.
If overnight funding markets tighten, the standing repo facility could come into play to cap rates. The reverse repo facility drains liquidity by exchanging cash for collateral, while the standing repo facility adds liquidity by providing cash against collateral. These results, reported at 1:15 PM and 1:45 PM, respectively, are worth monitoring for signs of market stress.