Shares, bonds brace for high US inflation, hawkish Fed

Major share markets were muted on Monday as investors count down to another US inflation reading that could well set the seal on an early rate hike from the Federal Reserve, lifting bond yields and punishing tech stocks.

The explosion in coronavirus cases globally also threatens to crimp consumer spending and growth just as the Fed is considering turning off the liquidity spigots, tough timing for markets addicted to endless cheap money.

That made for cautious trading with S&P 500 futures off 0.1 per cent and Nasdaq futures up 0.1 per cent. EUROSTOXX 50 futures and FTSE futures both edged up 0.2 per cent.

MSCI's broadest index of Asia-Pacific shares outside Japan added 0.2 per cent, while South Korea lost 1.0 per cent.

Chinese blue chips were little changed as recent policy easing was balanced by lingering concerns over the property sector.

Analysts fear the US consumer price report on Wednesday will show core inflation climbing to its highest in decades at 5.4 per cent and usher in a rate rise as soon as March.

While the December payrolls number did miss forecasts, the drop in the jobless rate to just 3.9 per cent and strength in wages suggested the economy was running short of workers.

"It was consistent with the Fed's evolving view that the labour market is getting close to or is already at maximum employment with wage pressures building," said analysts at NatWest Markets.

"This should add to speculation about a March hike, and we have pulled our expectation for the Fed's lift-off to occur in March instead of June."

A raft of Fed officials will be out to offer their latest thinking this week, including Chair Jerome Powell and Governor Lael Brainard who face confirmation hearings.

Markets quickly shifted to reflect the risks with futures implying a greater than 70 per cent chance of a rise to 0.25 per cent in March and at least two more hikes by year end.

Technology and growth stocks tumbled as investors switched to banks and energy firms, while bonds took a beating.

Yields on 10-year US Treasury notes were near highs last seen in early 2020 at 1.765 per cent, having shot up 25 basis points last week in their biggest move since late 2019. The next chart target is the 1.95/1.97 per cent area.

"We think that the increase in long-dated Treasury yields has further to run," said Nicholas Farr, an economist at Capital Economics.

"Markets may still be underestimating how far the federal funds rate will rise in the next few years, so our forecast is for the 10-year yield to rise by around another 50bp, to 2.25 per cent, by the end of 2023."

The Fed's hawkish shift has tended to benefit the US dollar, though it ran into profit taking on Friday after the payrolls report failed to meet the market's lofty expectations.

The dollar index was flat at 95.764, after falling 0.5 per cent on Friday, but has support at 95.568.

The euro bounced to $1.1354, leaving it near the top of the recent $1.1184/1.1382 trading range. The Japanese yen got a break from its recent bear run to stand at 115.64, as the dollar faded from last week's 116.34 peak.

In commodity markets, gold was a shade firmer at $1,795 an ounce but short of its January top at $1,831. Oil prices held steady, having climbed 5 per cent last week helped in part by supply disruptions from the unrest in Kazakhstan and outages in Libya.

Brent added 7 cents to $81.82 a barrel, while US crude stood unchanged at $78.90.

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