Markets are on edge ahead of Trump's January 20 inauguration, with his recent threats toward Greenland, Canada, and Mexico causing significant volatility. Combined with strong U.S. economic data, including rising job openings and service sector growth, this has bolstered the dollar while raising Treasury yield forecasts. Meanwhile, the Fed maintains a cautious stance on rate cuts despite market speculation.
Political Shockwaves and Economic Ripples: Trump's Pre-Inauguration Impact
Markets are closely analyzing potential catalysts as President-elect Donald Trump's inauguration on January 20 approaches.
On Monday, a report published by The Washington Post suggested that tariffs would be applied to all countries, but Trump's aides were reportedly working on a plan limited to critical imports. Following the news, traders reduced their long positions on the U.S. dollar, leading to a decline in the currency. However, Trump later dismissed the report as inaccurate, which helped the dollar recover some of its losses.
Even before taking office, Trump continues to influence global politics and financial markets. During a Tuesday press conference, he announced plans to increase U.S. influence over Greenland, Canada, and the Panama Canal, leaving open the possibility of using military or economic coercion.
Denmark also came under Trump's threats, as he proposed using steep tariffs to persuade the country to relinquish Greenland. He continued his threats against Mexico, pledging to rename the "Gulf of Mexico" to the "Gulf of America." For Canada, already grappling with Prime Minister Justin Trudeau's resignation, Trump proposed using economic leverage to force it to become the 51st U.S. state.
The new president's rhetoric wasn't limited to economic threats. He vowed that if Israeli hostages held by Hamas were not freed by the time he assumed office, the Middle East would face catastrophic consequences.
The relatively calm start to the week in markets was disrupted by Tuesday's political headlines, triggering the busiest trading day in two months. Some market observers interpreted Trump's remarks and the resulting market volatility as a preview of 2025.
Speculation about Trump's policies leading to faster inflation and larger fiscal deficits, along with the likely economic and political turbulence for global economies, continues to shape market pricing. According to the JPMorgan Treasury client survey, short positions on the dollar increased by six percentage points, while long positions rose by eight percentage points, reaching their highest level since December 2023.
Additionally, CME data from Tuesday revealed a new trade targeting a rise in the 10-year U.S. Treasury yield to 5% by the end of February. Some analysts view this as just the beginning: ING Groep NV projects that 10-year yields could reach approximately 5.5% by the end of 2025, while T. Rowe Price suggests a 6% yield is plausible. This aligns with expectations for a stronger dollar in the coming period.
Option markets indicate a 40% probability that the euro-dollar exchange rate will reach parity in the first quarter of 2025, with increased trading of contracts targeting this level. Since its introduction in 1999, the euro has only traded at parity with the dollar a few times, most recently in 2022, when the Russia-Ukraine war sparked an energy crisis and recession fears in Europe.
Currently, Trump's tariff policies pose a dual risk: they could weaken Europe's export-driven economies, potentially prompting the European Central Bank to adopt more aggressive easing measures, which would widen the interest rate gap. Besides, the halt in Russian gas flows to Europe last week has reignited concerns about a new energy crisis, further fueling bets on parity for the currency pair.
Meanwhile, Tuesday's release of optimistic job openings and service sector data dampened expectations for a more dovish Federal Reserve stance in the second half of the year, providing support for the dollar.
The U.S. Bureau of Labor Statistics reported that JOLTS job openings rose from a revised 7.8 million in October to 8.1 million in November, reinforcing confidence in a resilient labor market ahead of critical payroll data to be released on Friday.
A separate report showed that growth among U.S. service providers accelerated in December, reaching its highest level since early 2023. The report also revealed that the index of prices paid for materials and services surged by more than six points, raising concerns about persistent price pressures.
On the other hand, the increase in business activity likely reflects expectations around proposed tariff policies. U.S. trade data showed that imports rose by 3.4% in November compared to the previous month, while the trade deficit saw its largest jump since March 2022. This likely reflects businesses rushing to secure shipments ahead of potential tariffs and a possible dockworkers' strike.
Later in the day, traders will focus on the ADP Employment Change report from the U.S. and the release of the December FOMC meeting minutes, scheduled for early Thursday morning.
Cautious Fed Limits Gold's Rise, Central Banks Step In
The rise in gold prices remains limited as Fed officials continue to deliver cautious statements. Recent remarks by Governor Lisa Cook and Atlanta Fed President Raphael Bostic confirmed the Fed's intent to move more slowly with rate cuts this year. Bostic stated that policy rates could remain elevated for longer than people might expect.
Economic data reflects a robust U.S. labor market but persistent inflation, prompting Fed officials to adopt a cautious stance. Swap traders are not fully pricing in a Fed rate cut before July. Higher interest rates are typically negative for non-yielding assets like gold.
On the other hand, the People's Bank of China (PBoC) reported on Tuesday that it continued its gold purchases in December, lending support to gold prices. Over the past year, the PBoC has been a significant gold buyer, and central bank purchases have generally been a key driver of gold price increases.
This year, falling gold prices and potential global economic turbulence spurred by Trump's policies could further incentivize central bank purchases. This may help limit declines in gold prices despite the strong dollar.
From Trump's re-election surge to game-changing tariffs – Discover what's driving the dollar's 8% gain and where it's headed in 2025!