Global stocks drop, yields rise on fading rate cut optimism

The U.S. benchmark's yield last week traded as low as 3.783%, or more than the 150 bps of rate cuts that futures have priced in by next December for the Fed's target interest rate as the economy slows

Stocks in Europe and on Wall Street dropped on Tuesday, along with prices for U.S. government debt, on waning market optimism about timely interest rate cuts from the Federal Reserve.

The dollar climbed against major currencies as the yield on the 10-year Treasury note, which moves inversely to price, bounced back to trade above 4% early in the day - sign of lowered expectations for rate cuts in 2024.

The U.S. benchmark's yield last week traded as low as 3.783%, or more than the 150 bps of rate cuts that futures have priced in by next December for the Federal Reserve's target interest rate as the economy slows.

The biggest concern is whether the market misinterprets slowing growth as a warning sign for a looming recession, said Jack Janasiewicz, portfolio manager and lead portfolio strategist at Natixis Investment Managers Solutions.

The risk is that we get a couple of soft prints but the one that matters the most is going to be the labour market, Janasiewicz added. My gut says that the market will extrapolate weakness into that hard landing outcome. That is possibly going to be somewhat of a misleading backdrop.

Technology shares led stock market declines in the US and Europe. The Atlanta Fed lowered its GDPNow estimate for seasonally adjusted annualized growth in Q4 2023 to 2.0% from its December 22 estimate of 2.3%.

U.S. construction spending in November increased less than expected but data for the previous month was revised sharply up, indicating underlying strength.

The dollar strengthened because its recent sell-off was overdone, said Marc Chandler, chief market strategist at Bannockburn Global Forex. The jobs report for December Friday will likely show a still resilient U.S. labour market, Chandler said.

When the Fed meets later this month they are going to see above-trend growth and a resilient labour market. A resilient labour market means income, which means demand, that is why the dollar is recovering, he added.

The dollar index added 0.83% and was on track for its biggest daily percentage gain since October.

In Europe, the pan-regional STOXX 600 index closed down 0.11%, while MSCI's gauge of stocks across the globe lost 1.01%.

On Wall Street, the Dow Jones Industrial Average gained 0.07%, the S&P 500 shed 0.57% and the Nasdaq Composite declined 1.63%.