With just a few days to go before the Fed's final decision on key interest rates for the current fiscal year (December 10), the scenario for the last few weeks of the year seems largely set. Between « dowish » media statements of influential figures John Williams (Governor of the New York Fed) and Christopher Waller (long considered one of the favorites to replace Jerome Powell as head of the institution), the accumulation, beyond the fog left by the shutdown, of sluggish macroeconomic data (manufacturing PMI, sales figures, and consumer confidence index) and pressing rumors of the appointment of a very zealous courtier of the White House occupant (in the person of Kevin Hassett) as the Fed Chairman's designated successor, the direction of the imminent decision by US central bankers is no longer in doubt for the overwhelming majority of investors. And with it, the direction of the markets for the last few weeks of 2025.

True to the distressing mantra “Any bad news is good news,” the S&P 500 (carrying along not only a significant portion of global equity indexes, but more directly for us, the X-Over) has recently reached new highs (see charts below).

Sources : Bloomberg, Amplegest

Sources : Bloomberg, Amplegest

It matters little that the “bullish” nature of this decision for risk premiums across all asset classes considered risky is eminently questionable :

• not only because a 25 bp cut in short-term rates would have only a marginal impact on company valuations;
• and given that it has no impact on their future earnings, which will be much more affected if the economic slowdown in the United States (the engine of global growth) persists or if the risks of stagflation materialize;
• and more broadly, given that it says nothing about the future trajectory of rates in the United States (regardless of the politicization surrounding the next Fed chair), and even less (obviously) about European rates.

The path is laid out...

Admittedly, credit markets are beginning to show signs, if not of outright nervousness, then at least of weariness (see chart below).

 

Sources : Bloomberg, Amplegest

 

Admittedly, volatility in interest rates shows little sign of abating.  Admittedly, some pessimists, including Pablo Hernández de Cos, former Governor of the Bank of Spain and now General Manager of the Bank for International Settlements (Basel), have recently highlighted the risks posed, among other things, by rising public debt in an environment where the influence of traditional financial intermediaries is declining, is likely to pose to global financial stability. However, these risks remain far too diffuse to derail investor optimism... The end-of-year scenario is all the more certain as it is anchored in solid inflows across credit and other risky asset classes... Year-end will be bullish — or not at all... Unless...

Let us recall last summer... Or rather, the summer of 2024, that day in July when the faraway Bank of Japan decided to raise its rates... causing turmoil across global markets, from the second-largest one-day equity market correction in history to +46 bp for the X-Over and +21 bp for the FinSub index. This served as a reminder of the importance of the (yen) carry trade in global financial flows and the unique position of the Japanese archipelago as the world's creditor.

On December 1, Kazuo Ueda, Governor of the Bank of Japan, shifted his tone in a speech just enough for analysts to see it as a sign that he wants to get the markets ready for a (potential) rate hike before the end of the year, or more specifically on December 19. For now, this has caused only minor ripples in the markets...

Once again, nothing seems likely to derail investors' optimism (sometimes tempered by caution), not even the emptiness of some of their arguments supporting the supposed exceptional nature of the summer of 2024, among which the fact that the investment rules of the Government Pension Fund require it to hold 25% of its portfolio in foreign assets (rules widely followed by local institutional investors) stands out prominently.

While we will refrain from crying wolf or playing Cassandra, let us not forget to point out here that:

• the rise in Japanese rates in a context of an all‑but‑certain decline (if the forecasters are to be believed) in US rates risks considerably reducing the interest of positions built on the basis of this carry trade... And that while the volatility of the yen may support keeping these positions, the Japanese currency is far from the only currency to have struggled ;

Sources : Bloomberg, Amplegest

• that regardless of the size of these carry trade positions (estimates of which range from several hundred billion to several trillion USD) or the fact that speculative investors are already, according to some sources, heavily exposed to the yen, the BoJ's decision will come at a time when not only are trading desks dangerously light, as is often the case in the summer, but risk premiums are broadly compressed...
• As a result, we have decided to keep all hedging positions in place across our flexible funds for the weeks ahead...

Let's remember last summer...

Mathieu CRON