Top of the Morning: CIO Strategy Snapshot - Better Than Expected, Eh?
The desk's view emphasizes caution despite the apparent positive market response to the initial week of Trump's second term, as articulated in UBS's recent commentary. Per the full note source, the markets welcomed the lack of new tariffs, shifting focus towards upcoming Q4 earnings and the FOMC meeting, though expectations for sustained bullish momentum should be moderated. This aligns with current macroeconomic signals indicating potential volatility in response to pivotal earnings reports and Fed commentary. As such, positioning in FX markets may need to incorporate potential market reactions to these catalysts.
What the desk is arguing
The desk posits that while the initial market reaction to Trump's new term has been positive, traders should temper expectations regarding sustainable bullish price action. As noted in the UBS analysis, the focus on new executive orders rather than tariffs suggests a more gradual approach to economic policy than markets may hope for.
Supporting this view, the commentary highlights that significant economic influences such as fiscal policy remain tethered to legislative actions, which could limit immediate effects on the market. The lack of new tariffs, a critical market mover during Trump's campaign, indicates a strategic pause which could lead to uncertainties in market behavior as earnings reports loom.
Where it sits in our coverage
Our consensus target for the relevant currency pairs remains set at 1.075, with a range between 1.04 and 1.12. Specific targets from the following firms reflect the current sentiment: - jpmorgan: 1.10 (Mar26) - bofa: 1.04 (Mar26)
The desk's cautious outlook appears to be aligned more closely with jpmorgan, who suggests a bullish target at the upper end of our forecast range, while bofa offers a more conservative stance with their bearish target.
How other firms see it
jpmorgan and several other firms maintain an optimistic bias, aligning their forecasts with a gradual recovery narrative, while bofa expresses skepticism, predicting lower price points under current economic conditions. This dichotomy illustrates a broader divide in expectations concerning the impact of upcoming fiscal developments.
Key related pairs to monitor include USD/CAD and EUR/USD, both of which could react to shifts in Fed policy and earnings surprises stemming from recent executive actions. The interplay between these currency pairs can often highlight broader economic sentiment and forthcoming market volatility.
01Markets react positively to executive orders with no new tariffs, but caution is warranted.
02Focus on Q4 earnings and the FOMC meeting as potential market movers.
03Expect volatility as investors digest economic developments and earnings reports.
04Macro signals indicate a need for prudent positioning in FX markets.
Market implications
Traders should watch for potential resistance near the 1.075 level while keeping an eye on upcoming earnings reports and FOMC comments, which could dictate market direction and sentiment shifts. Positioning ahead of these events may be prudent as volatility is likely to escalate.
Risks to this view
Invalidation of the cautious outlook would emerge from a surprise combination of strong earnings reports and an aggressive Fed stance, potentially leading to a rapid bullish swing in FX markets. Additionally, any new tariffs introduced unexpectedly could also alter market sentiment significantly.
ubs
Hi everyone, Dan Cassidy here. Welcome back to Top of the Morning on the UBS Market Moves podcast channel. One week into Trump 2.0 and there is no shortage of news to digest.
There were dozens of executive orders, but no new tariffs, at least not yet. The markets responded positively, but attention is already turning to new developments, including DeepSeek AI News, tariffs very briefly applied to Columbia, and another eventful week with more Q4 earnings, as well as an FOMC meeting. So joining us today to discuss this all for the CIO Strategy Snapshot, I'm glad to once again welcome back in studio Jason Draho, Head of Asset Allocation for the Americas with the UBS Chief Investment Officer.
So with that, Jason, nice to be with you as always here today in person. Thank you for dropping by. Good morning, Dan.
Good morning to our listeners. Good to be here again in person. This is the New Year's resolution still sticking so far.
Almost made it through January, so we're doing pretty well with our commitment thus far. So a lot to catch up on, of course, Jason. Let's begin with the first week of Trump 2.0 from an economic policy perspective.
What has happened over the past few days? What have we learned? Well, there was a number of executive orders signed on day one and throughout the week.
I'd say most of them pertain more to immigration, cultural matters like DEI issues, energy policy, size and scope of government, things that would have a direct or more indirect impact on the economy. A lot of the major issues such as fiscal policy and taxes are legislative act. The president can't do that on his own.
The real focus from the market's perspective was what would be done on tariffs. There was certainly chatter during the election campaign and even post-election. Trump would make comments about tariffs day one on certain countries.
That did not come to pass. There were no new tariffs announced on day one or during the week. Instead, what we got before the inauguration last Monday was a memorandum of understanding that dictates various government departments, whether it's commerce, trade, others, investigate trade practices, signs of abuse, and then basically report back by April 1st on a set of actions.
That was Monday morning. By Monday evening, Trump was asked in an informal press conference by a reporter about tariffs on Canada and Mexico and did say potentially apply 25% to both countries by February 1st. The investor community by and large has always viewed a lot of these tariff tactics or comments as a negotiating ploy.
You escalate to de-escalate. The news very briefly on Sunday about tariffs on Colombia, which stemmed from the fact that Colombia was refusing to allow planes that had deported migrants to land in Colombia. Trump came out and said, well, fine, we'll apply a 25% tariff.
Now there were immigration restrictions on Colombians. The Colombian prime minister and president sort of backed down and those never really kind of came to pass. You can sort of view that as a sign of, again, this is escalate to de-escalate to get the results you want.
Same thing with Canada and Mexico. The markets are sort of viewing this as in that framework and that in a lot of ways, what has really been done is to strengthen the US position to negotiate or renegotiate the USMCA free trade deal that was passed under Trump 1.0 that is set for renegotiation in 26. Doing all this might just pressure the countries to reopen and start renegotiations sooner.
So rather than apply the tariffs, it's just getting this kind of action sooner on things on matters such as immigration, which certainly has economic implications. Deportations have begun, but I think it really remains to be seen how significant the total number of deportations will be. A lot of the migrant workers are concentrated in industries such as agriculture, construction, where if you take those workers away, it has pretty immediately a negative impact.
So we'll see what the administration, how much they do, whether a lot of what is right now being done is much for optics. It is for needs for safety, but also how far they pursue this. So big picture is, and also not a lot of news on fiscal.
What we're seeing this morning is Republicans are meeting down in Florida to start to kind of hash out plans for how they want to proceed on fiscal matters because a number of things have to be done. Raising the debt ceiling, finding the government after March 14th, and of course, dealing with the expiring tax cuts. So more to come there.
But if I were to wrap it up from an economic perspective, week one was the fear was there'd be new tariffs and there were no new tariffs. So the market's going to review that favorably. So a lot there to digest.
Jason, if we turn focus to the markets and as we're speaking on this Monday morning, of course, acknowledge the selling pressure in tech. We'll get to that a bit later in the conversation, though. Markets last week were higher.
Investors seem to have liked the news developments out of Washington. As you wrote in your latest blog, a better than expected, eh? If I have that enunciation correct.
Eh? Eh? We'll go with that.
You are, of course, the author. Can you summarize, Jason, for us the key aspects of the price action last week? Your Canadian lingo, I guess, is not that up to speed.
So I mean, if we take to where markets closed on Friday, it was a good week for financial markets across the board. Equities were up in almost all sectors except for energy were up for the week. Run yields fell a little bit, so almost all fixed income was down, gold was up, oil was down, which is why energy was down.
But a good story for the markets overall, the S&P 500 was up 1.7%. The dollar sold off. It had been rallying strongly since last fall and in the start of this year, but it was down about 2%, and that's as of actually earlier this morning.
But most of that sell off, that 2% occurred last week. Speaking of Canada and Mexico, the potential countries that would receive tariffs, their local equity markets were up 1.7% and 5% respectively. So if investors are really concerned about tariffs when on their economies, you wouldn't see equities higher.
And I saw one estimate this morning, it came from the Bank of Canada, that suggested in their models that if there was a 25% tariff applied on exports from Canada to the U.S., that the Canadian economy could go into recession and shrink by 6%. So the fact that the markets are basically viewing this as a no tariff day one, that's why it's sort of better than expected, A. I need to spend more time in Canada, I guess.
Or just watch the stereotypes on American TV, either one will do that for you. I have to ask about the FOMC meeting this week, Jason, compared to other recent Fed meetings, this one in particular seems somewhat like a relative non-event. What are your expectations for the Fed meeting this week?
Well, I think it's been many, many months where a Fed meeting has been sort of an afterthought. And this kind of fills in light of all that's going on right now, a bit of an afterthought. When the Fed cut 25 basis points in December, they also kind of signaled that this was a hawkish cut, that they would need more time to assess what their next steps would be.
The updated sort of dot plot implies two cuts for this year. So certainly scope and time for them to take a pause. And all indications are that that's what they will do.
So no hike this week, no significant change in their guidance because their economic projections, the dot plot, they're only updated quarterly. The next update will be in March. Their statement will probably be very similar because the economic data received since the last meeting has generally been good for growth, the labor market, but also inflation being a little bit below expectations.
So the Fed is in a comfortable position right now where they can kind of sit back, see the data play out, see what the policy news from D.C. is before they sort of take any actions. The market pricing has evolved such that it's now pricing in about one full cut by June, 1.7 cuts for the full year. Our view is two cuts this year, June and September, so pretty close in line.
Same thing with the Fed's sort of projection of two cuts based on the dot plots. So kind of, again, it should be sort of relatively uneventful. So I think what gets more interesting is what happens beyond this year.
If you take the cuts that are, the 1.7 cuts that are done by December, the market pricing for the Fed funds rate for next year is basically flat, which would imply that the Fed does nothing next year, which is certainly a possibility, but I think it also reflects that the risks to rates from there are more symmetric, meaning there could be cuts, but there could also be the possibility of hikes. There are definitely investors out there who view that the Fed will be hiking next year in part because, ultimately, the policy on the fiscal front will be somewhat stimulative. It'll support growth.
The growth will be strong, and if anything, it could re-accelerate inflation, therefore the Fed might be hiking. It certainly remains to be seen, but I think it becomes definitely more symmetric by next year. So that's an interesting thing to play off or look at, is Fed's on hold, probably doesn't do a lot for a while, but the really kind of story is, if they do more cuts, where do they go kind of beyond this year?
That's to be determined, but that's kind of where the mindset of investors are. Not much now. So the real story is later this year or next year.
So a lot of wait and see at this point. Thank you, Jason, for helping us to manage expectations near term. We will see what this week delivers from the Fed.
I do want to turn now to the big tech news from over the weekend was the buzz around DeepSeek, which is an AI chatbot released by a Chinese company that is performing as well or better than chatGPT and at a fraction of the cost. Now US tech giants are poised to sell off this morning as a result. I think at one point the Nasdaq futures were as low as a decline of 8% heading into the open in just a few moments from now.
So what is the early read on this? Well, let's just give a little bit of context of what is DeepSeek and where to come from, because it's really for most people and even perhaps in the tech community, you know, what's not on their radar even a week ago. DeepSeek is an AI, you know, kind of large language model similar to chatGPT.
You can give it prompts and it gives you kind of feedback. It was actually started by a quantitative hedge fund, not one of the big Chinese tech giants that is comparable to the US tech giants. They have released chatbots before.
This isn't their first thing. I mean, they've done other things back in 23, but the latest release was just last week. It's also an open source AI model, meaning they're basically putting their code out in the public for everyone to see, for developers to adjust, versus being proprietary where no one knows what it's doing.
They also released a paper explaining how it was built. They claim that a fraction of the training and inference costs compared to these large models produced by these, you know, the big US companies. And through a variety of testing metrics, it's performing, you know, comparable to chatGPT, the kind of latest version, you know, coming out, which is kind of raising the question what if it is going to be developed at a fraction of the cost, and it's open source so people can see it, well, then why are we, you know, why are companies spending a lot of money to develop on chips to run these big models when this technology perhaps provides a different path?
That's why the knee-jerk reaction is a little bit this morning of, you know, shoot first, ask questions later, just because we don't quite know. And as you alluded to, the NASDAQ futures, you know, were down 8%, it goes overnight, 4% earlier. You know, so bit by bit getting a little bit less, and video was down over 12% at some point, you know, then it, you know, fell back to be down around, you know, 10%, 11%.
So a lot to be sort of determined, still a lot of open, you know, questions in terms of what we know. If what we do kind of know or think about a big picture is that, you know, the potential success of DeepSeek doesn't really derail the AI growth story. You know, the few things I've read this morning suggests like, look, this, it has maybe limited applications, it does, you know, certain things, but it's, you know, there's a lot still needs to be done in terms of these computes, developing the models, whether it is, you know, chat GPT, open AI, you know, this application, or something else that can come along, there's still definitely kind of work to be done, and this still may require significant capital investment.
Now, if it does prove that you can develop these models at lower cost, at significantly lower cost, that just actually can maybe accelerate or bronze out, you know, the adoption of AI, because now you can do more of it at a cheaper rate. There's also a thought that there could be a bit of a bifurcation, you know, similar to what we've seen, say, for other technologies, such as operating systems on cell phones, proprietary systems, and sort of premium that you can charge a, you know, higher cost for, versus more open source, you know, more kind of, you know, broad-based, that is open, you know, you know, a broader audience. And we've seen with cell phones that people are willing to pay for a premium product.
So again, that doesn't necessarily change from what we know this now, the potential revenue opportunities, you know, later on down the line. It's also the case that, you know, the big tech companies, AI investments are not limited to developing just large language models. There are a lot of, you know, different applications that these could be done, whether it's video, you know, pictures, graphics, all those things, which, you know, the deep sea doesn't do at this point in time.
So a lot of things that, you know, broader scope of what's still to be determined. What it does, though, is, you know, certainly raises kind of questions about where does the value proposition of the whole AI value chain come in? A lot of focus for the past couple years on infrastructure, you know, investing in semiconductors, running the models.
The expectation was in the coming years, we'd see a shift towards more like adoption, some more perhaps like the software applications. This could be perhaps accelerating that, and, you know, more to come on that, and certainly our team will spend more time on it this week, digesting it. From a more macroeconomic perspective, you know, there's always been an argument that AI is sort of disinflationary, or it's certainly a productivity enhancing tool, which, you know, productivity can be disinflationary.
If it turns out you can use these kind of models that are a fraction of the cost of what we thought before, and the adoption accelerates, well, then that sort of positive productivity boost disinflation, you know, kicks in, you know, even sooner. Things are moving very quickly. We'll learn actually more this week because, you know, some of the big mega cap companies such as Apple, Microsoft, Meta all report earnings, they will certainly be asked questions and we'll give some guidance of how this impacts, you know, what they're doing.
So fast moving situation, clearly the markets are trying to digest this, but all, you know, considerations are this could be like another, you know, step change in terms of the development of these models. Would it be fair to say that the selling pressure we're witnessing today is overdone a bit as we're figuring this out? There's a fundamental aspect, there's a sort of technical position aspect.
The fundamentals, that's, you know, I think everyone is still trying to digest and figure out what that, you know, what this all means, and that's not my expertise. I'll leave that for others to decide and sort of, you know, assess and opine on. What I can say is that just financial markets in general, this is not specific to AI, is that when you get big moves like this, that there are systematic strategies, there are dealers and hedging that sort of come in that will amplify the moves.
So once something sells off, you know, it can kick in algorithms that cause it to sell a few more, that causes, you know, other sort of, you know, a bit of a domino effect. And so that can cause overshooting, and then, of course, it overshoots, and they can then, the algos or those, you know, systematic strategies can reverse very quickly. So you can see even today, NVIDIA could end up being down 15%, but it also could close down 8%.
I mean, these are not predictions by any stretch, but just to give you a sense of, like, what's going on. So today, the next couple of days, it could be driven more by the positioning readjustments, as if everyone was positioned one way, that's sort of undoing some of that. Before then, it does settle some of the fundamental story of what it means can start to take over.
But right now, it feels like it's a little bit of everyone rushes out the door, and there's a lot of people that go through the theater door, you know, it can cause congestion and sort of big dislocations. But once it sort of calms down, then you can assess what's really going on. Well, thank you, Jason, for explaining that very helpful clarity.
So let's now turn to positioning as we close out. Based on all of the developments you've shared with us this morning, what should investors be doing at the moment? Good reaction to the markets, to the, you know, Trump 2.0 last week.
Some of the details of how the markets are performing are interesting. If you look at sort of year-to-date performance, cyclical stocks, through Friday's close, had been outperforming. And already, the MAG 7 were underperforming the S&P 493 by about 2%, and I think that will be exacerbated today based on the moves.
Volatility had been moving lower across the board, whether it's equity, the treasury volatility, FX volatility. For, you know, the VIX index was at its year-to-date low on Friday. It's bumped up, as of like, you know, an hour ago, about 33%.
So clearly, you know, that volatility is coming back. But in the context, I say all of a sudden that, through Friday, the, you know, the stake was, or the take was, good fundamental, you know, picture from what we saw from corporate earnings that have reinforced that view. Only about 16% of the S&P 500 market cap has reported so far for Q4 earnings, but EPS growth is running around 12%, 13%.
Consensus going in was 8%. You know, companies are beating earnings, sales, sort of a combination of both, a little bit better than average. So it's been a good earnings season so far.
We'll know a lot more this week when 34% of the S&P market cap reports. But that sort of reinforces, the earnings story reinforces the economic story, which has been a good one overall. So we will get, you know, volatility, you know, like we're seeing right now, tied to the more micro-level theme that's been driving the markets higher, but the fundamental story kind of remains the same.
And ultimately, as the dust settles on this AI story, we might realize that, look, there's still, you know, you're shifting relative winners, but the story is still very, very kind of being a positive for AI as a theme. So we still, you know, see more upside in equities, and any significant pullback is probably an opportunity to add some exposure. You know, still like AI as a theme, but perhaps the relative winners in it need to be reassessed.
Fixed income yields have dropped, partly as a flight to safety this morning by, you know, around eight basis points. Again, if it's not a fundamental story, then it's, you know, it's hard to sort of think that that's necessarily justified. I think it's more, again, sort of technically driven.
We still think, you know, rates, you know, volatility, the 10-year yield specifically will chop around as information comes in, as we get more from on the fiscal front, what could happen there. Again, finding out by the end of the week what happens with tariffs, if they're actually implemented across, you know, Mexico and Canada. So a lot of scope for things to sort of chop around, which is why we still, on fixed income, say up in quality overall, you know, don't take a lot of duration risk, you know, because especially now that yields have rallied almost 30 basis points for the 10-year, it could back up.
Kind of up in quality, you know, medium duration overall. And gold for gold is another key theme that the gold has done well recently, and we continue to think that it could be a good, you know, safe haven, you know, risk off hedges for a variety of reasons. So those are some of the key messages.
A lot going on, but I think that if you kind of sift through all the noise, like the fundamental story is still good, that's still favorable for equities, and the fundamental story for AI is still positive, it's just, you know, this news maybe changes, like who are, what's the valuations, who are the winners. But again, more to be determined. Well, Jason, thank you for the position and guidance, as we've seen a lot going on in the markets.
A very busy first week for President Trump will give us a lot to talk about in the weeks and months ahead. So thank you, Jason, for dropping by and for kicking off the week with our listeners. You're welcome.
Have a great week. Thank you, Jason. I, too, have been joined by Jason Draho, Head of Asset Allocation for the Americas with the UBS Chief Investment Office.
I will, again, point everyone to Jason's blog, which we have been referencing today, Better Than Expected. Eh? How did I do with that one, Jason?
That was much better. Very good. Great.
Make an improvement. Again, today, we've been referencing that blog from Jason Draho. For our listeners and clients, please be sure to reference the blog up on ubs.com forward slash CIO.
For clients of UBS, please reach out to your UBS financial advisor if you would like to receive a copy directly from UBS Studios. I'm Dan Cassidy. Thank you for joining us.
Thank you for tuning in. Be sure to visit ubs.com slash studios to view the entire UBS Studios suite of podcast channels along with our video offerings, such as UBS Trending. You can also follow us on Instagram for content highlights at UBS Trending.
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