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Surprise, Surprise - Action Forex

Risk sentiment turned suddenly sour on Thursday. Nasdaq tanked 2.5% and the SP500 slid close to 0.87% from ATH levels, as investors weighed the possible negative impacts of a tighter Federal Reserve (Fed) policy, the rising omicron cases, and the fact that Biden’s $2 trillion won’t pass the legislation this year.

Volatility is rising again, lowering the predictability of what may happen next. Although this week gave little answer about whether we will see a Santa rally, we now have a clearer roadmap about what should happen on the US monetary policy front. Therefore, there is chance of seeing one last record before we close the year on the index level.

In the medium run, the rally in US equities should continue even with tighter monetary conditions for two reasons. First, even with a twice-faster QE tapering, the Fed will be expanding its balance sheet over the next couple of months. And second, the company earnings have been sufficiently strong this year, comforting that things should not come down crashing overnight. So, despite the expectation that higher interest rates should benefit to value names, the US big tech companies, which are strong enough to survive a 100-200 basis points hike over the next two years, should continue doing well.

We may however see a stronger volatility and more frequent downside corrections on index level, but I am not sure the bumps on the road would prevent the SP500 and Nasdaq from gaining another 5 to 7% which would bring the SP500 to 4900/5000 range and Nasdaq to 16600-16800 band.

BoE: What a surprise

The Bank of England (BoE) raised its rate by 15 basis points to 0.25% and became the first major central bank to raise the rates. Government Bailey pointed at the ‘persistent inflation’ after the latest data showed that inflation in Britain advanced past the 5% in November.

The British pound took the opportunity to rebound from a year low against the US dollar. The latest BoE move should be a pivot point for sterling, as the bold move from the BoE should give the market’s reins to the hawks and encourage a further recovery in Cable toward the 1.35.

The FTSE on the other hand should continue benefiting from a relatively cheap pound and the fact that the higher rates will grandly benefit to its bank-heavy portfolio. As such, I expect the FTSE 100 to at least advance towards the pre-pandemic levels in the coming months.

Let’s give it another name

Across the Channel, the European Central Bank (ECB) also did a hawkish tweak to its policy, but that tweak was much less impressive. The ECB announced the end the PEPP program by next March, but added that the bank would double the APP purchases to ease the transition.

Say that again! The ECB will stop buying the bonds under the name of PEPP program, and they will continue buying bonds under the name of APP program, hoping to fool Mr. Inflation and convince him to go away.

And oh, that’s not all. The ECB will continue investing cash from maturing bonds for longer and will keep the PEPP emergency scheme suspended, and ready to be deployed at short notice in the event of turbulence.

The latest changes are better than nothing and should give a bullish swing to the euro, yet they won’t be enough to keep the ECB doves safe for the next meetings.