To taper or not to taper? That is the question. We will know on Wednesday

As we enter the final full week before Christmas, the preceding week ended with developed markets of Europe, UK and the US falling almost 2% on the week. Bond yields rose as the market adjusts to the possibility of the Fed tapering its bond purchase program on Wednesday, at the final meeting of the year. On Monday and Tuesday we get a large influx of economic data that may influence Wednesday evening's decision. Today in the US we get industrial production data, capacity utilisation, unit labour costs and non-farm productivity, then on Tuesday we get a raft of inflation data. Financial journalists and commentators will be analysing the data over the next 2 days and coming up with various scenarios for the outcome on Wednesday evening.

Apart from the US data there is quite a lot coming out in Europe and the UK. In Europe today we get manufacturing data, and more importantly on Tuesday we get euro area inflation data. As John Authers points out in Saturday's FT as he highlights his risks to equity markets next year, deflation in Europe is one of those risks. Deflation as the FT rightly points out could well reignite the problems in the periphery, as it would make it harder for these countries to work of their debt as debt becomes more expensive. The first ECB meeting of 2014 takes place on the 9th of January, and should the inflation data this week continue to show the euro zone economy flirting with deflation, as much as speculation is increasing the Fed will start to tighten monetary policy, the speculation will gather pace the ECB will put into place some of the policies they have threatened at previous meetings.

I have often speculated in this blog that the Fed will start tapering at the same point in time the ECB start getting more proactive. The euro has once again rallied back close to the 1.38 level against the US dollar. Every time this year the euro has reached that level, the ECB has done something to weaken the currency, as you can see from the chart below. I would not be surprised to see something similar on this occasion. On Wednesday in the UK we get employment data, should the unemployment rate continue to fall that will only lead to further speculation that the Bank of England will be one of the first developed economies to raise rates. The Christmas rally so anticipated has yet to materialise, whether this is just the optimist in me but I am of the opinion once the Fed decision is out of the way and the uncertainty is removed, whatever the outcome that could be the catalyst for equity markets to show some Christmas cheer. 
Courtesy of Yahoo Finance

Posted on December 16, 2013 .