We start the week with familiar concerns: Trump’s new tariffs on aluminium and steel, scrutiny of US economic data, and geopolitical tensions.
Last week was a wild ride for financial markets. The Vix volatility index surged to its highest level of 2025 so far, as headline risk and geopolitics continues to drive market price action. European fiscal expansion and Donald Trump’s wavering tariff policy were the key drivers of price action last week. European equities managed to outperform US equities for another week, even though gains were thin on the ground. The S&P 500 staged a decent comeback late on Friday, after Fed chair Jerome Powell sounded upbeat on the outlook for the US economy, however US stock futures fell at the open on Sunday night, suggesting that the upside could be short lived.
Expansionary fiscal policy seems to be driving outperformance in European, Hong Kong and Chinese equities, which were also higher last week. Equity markets in countries with fiscal contraction and government austerity are struggling in the current environment. This includes the US, and the UK. Although UK equities had a strong start to the year, over the past month the FTSE 100 has underperformed its European counterparts.
The bond market and the FX market were also in focus last week. The dollar suffered a sharp slide as tariff risks and a sharp rise in European bond yields weighed on demand for the dollar and pushed EUR/USD to its highest level since November. The dollar has clawed back some losses late on Sunday, after Fed chair Jerome Powell said on Friday that the Fed did not need to rapidly adjust monetary policy due to a weakening US economy. The Fed chair sounded confident that the US economy was still strong and that inflation risks meant that the Fed had to remain vigilant. EUR/USD has dropped approx. 60 pips since Friday, but it remains in its recent uptrend, and we do not think that Jerome Powell’s comments on the dollar alone will be enough to stem the greenback’s decline.
The other themes that are dominating financial markets right now include European defence spending, Germany’s fiscal bazooka, and the prospect of Eurozone bonds, which makes joint EU debt issuance more likely down the line. The rising euro and surging German bond yields reflects this prospect. For now, markets are calm, however, alarm bells will ring if investors see pooled EU debt as being negative for Germany’s credit risk. This would be reflected in narrowing yield spreads between Germany and elsewhere. Historically Germany has had lower bond yields than the rest of Europe, but if Germany is adopting the spending habits of the rest of Europe than its bond yields should rise at a faster pace than its European neighbours in future.
A new fiscal future for Germany makes this week’s sovereign credit rating updates for the Eurozone interesting. Fitch will release its latest sovereign rating update for France late on Friday. Will the credit rating agency mention the 34bp increase in France’s 10-year bond yield last week? If yes, then the impact of Germany’s fiscal ambitions may not be all good news for financial markets.
Overall, we start a new week with the same concerns as last week: President Trump will levy more tariffs, this time it is aluminium and steel imports, US economic data will continue to be scrutinised for signs of weakness, and geopolitics are also on the radar. At the weekend President Trump made positive noises about a minerals deal with Ukraine, which is seen as a precursor to a bigger peace deal between Ukraine and Russia. However, Elon Musk also came out and said that the US should pull out of NATO. The US continues to play good cop/ bad cop when it comes to the Russia/Ukraine conflict, and Europe is in the middle of it all. This unusual stance by America, makes the future less clear, and it makes the world less safe, which is why financial markets cannot seem to find a break as we move through Q1.
Fundamental data is also worth watching closely, and below we look at the three main events to watch this week.
1, US CPI
Fed Chair Jerome Powell’s speech on Friday surprised the markets for its bullishness, which means that this week’s CPI data is of great significance for investors. Powell said that the Fed needs to see more weakening of the jobs market and further progress on disinflation before cutting rates again.
January’s CPI report was stronger than expected, and headline and core CPI both rose by more than expected. Analysts expect some progress on inflation for February, with the headline rate expected to fall back to 2.9% from 3%, and for core to fall a notch to 3.2% YoY. The shelter index has been a sticky point for core inflation for years now, and although shelter costs overall may help core prices to moderate in Feb, rents may have been adversely impacted by the California wildfires at the start of the year. Overall, if there is no improvement in this index, then we could see the dollar stage a broad recovery later this week.
It is probably too early to see the impact of tariffs in this data, however, a 10% tariff on China was imposed last month. If there is any upward impact on the CPI rate due to this, then expect a broad-based risk aversion to descend across financial markets, which could be bad news for both bonds and equities. Interestingly, Chinese CPI was weaker than expected last month, although this could be due to seasonal factors and the timing of Chinese New Year.
2, US jobs data
The February NFP report may have been and gone, but more timely job indicators from the US will continue to be monitored closely to see if Elon Musk’s DOGE is having a material impact on the jobs market. The NFP report saw a slowdown in government jobs created last month, and federal jobs were cut, even though local governments boosted their workforces. The Jolts job openings data is from January and will not include the impact of Musk’s clear out of Federal workers. It is expected to see a slight reduction in job openings, although they are expected to remain elevated at 7.6mn.
Initial jobless claims are also worth watching. If these tick up in the coming weeks, then it could be a sign of labour market weakness. The Fed remains data dependent, so any weakness in the data could lead to more rate cuts down the line from the Fed. For now, the Fed Funds Futures market is expecting just under three cuts from the Fed this year.
We would also note that US equity markets are jittery about the state of the US economy. Late on Friday, the Atlanta Fed’s GDPNow estimate for Q1 GDP was released. It was even worse than last week. Its model is expecting GDP growth in the US to fall by 2.4% in Q1, a hefty contraction. We will be watching the equity markets on Monday to see if they react to this estimate. Although the Atlanta Fed’s model is not a perfect predictor of GDP, it usually follows in the same direction, which does not bode well for the US economy. If initial jobless claims rise this week, then this could spark another market rout, as investors start to panic about the US economy, and the lack of action from the Fed. It is worth noting that we will not hear from many Fed speakers this week as they enter their quiet period before their meeting on 18/19th March.
3, UK growth
The monthly GDP report for January is the data highlight for the UK this week and it is released on Friday. The market is expecting a lacklustre 0.1% MoM growth rate, down from 0.4% in December. The quarterly rate of growth for January is expected to pick up slightly to 0.2% from 0% in Dec. There is expected to be weakness in industrial and manufacturing production and construction, while service sector data is expected to rise slightly.
Q1 GDP is expected to be supported by government and consumer spending, but the risks are to the downside. We are weeks away from the hike in national insurance that has been a bitter pill for UK businesses of all sizes to swallow. This could keep confidence, and thus consumption on the back burner for some time.
Over the weekend, the government announced plans to make the civil service more efficient, using AI technology. It is also trying to get rid of low achievers. The Spring Statement that is due later this month, may also see broad based cuts in government spending in an effort to buy fiscal headroom and fund defence spending, now that the US is relinquishing responsibility to pay for Europe’s security. Last week, the top performers on the FTSE 100 were defence firms like BAE Systems and Rolls Royce. RR is the best performing stock on the FTSE 100 for 2025 so far, as UK defence firms continue to outpace big tech in the US. We continue to think that European defence stocks could have further to run, as the sea change in global defence spending is one of the biggest equity market themes to emerge this year.
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