Weekly Risk Signals

Investors seem satisfied that the resilient U.S. economy, which continues to expand despite an aggressive Fed tightening cycle, can withstand central bank headwinds and force a potential recession into 2024 at the earliest. One of the biggest tail risks in this scenario is that the Fed overtightens and triggers a credit event that sinks the risk asset markets and ushers in the return of the Treasury safety trade. We could see some heightened volatility this week and into next.

This week’s signals remain mixed, but judging by the markets reaction to the latest round of inflation and retail sales data, it may not remain that way for long. One of my big concerns is that the January data means the Fed is about to overcorrect even further. We could also see volatility start to pick up heading into the March FOMC meeting.

Conditions are starting to look a bit more risk-off here. Inflation and the Fed are starting to control the narrative again following a rebound in retail sales, a stubbornly tight labor market and multiple inflation metrics that came in hotter than expected. Just as was the case in 2022, any environment that gives the Fed more ammunition to raise rates or keep them higher for longer has generally been negative for both stocks and bonds.