by Patrick Fearon-Hernandez, CFA, and Thomas Wash

[Posted: 9:30 AM ET] | PDF

Our Comment begins with a deep dive into the volatility hitting the Japanese bond market. We then provide an update on the US-EU standoff over Greenland and the potential for a new round of US trade talks with China. Further analysis covers concerns regarding US tech leadership and today’s pivotal Supreme Court hearing on Federal Reserve independence. As usual, the report includes a roundup of essential economic data from the US and abroad.

Japan Bond Yields: Rising supply in the Japanese debt market is acting as a catalyst for a wider retreat from sovereign bonds. The market’s weakness stems from Prime Minister Sanae Takaichi’s decision to dissolve parliament for a February 8 election; a strong mandate would likely clear the path for a massive fiscal expansion. Since she took office in October, fears of uncurbed spending have weighed on investor appetite for long-dated Japanese Government Bonds (JGBs), a sentiment that is now beginning to infect the perceived credibility of other sovereign issuers.

• JGBs found some reprieve amid speculation of coordinated intervention by the government and the Bank of Japan. On Wednesday, the BoJ executed its scheduled bond-buying operations, providing much-needed liquidity. Meanwhile, pressure is mounting on the Ministry of Finance to alleviate supply concerns by either increasing purchases of long-dated bonds or reducing the issuance of 40-year securities.
• The spillover from surging Japanese bond yields has impacted both international markets and the domestic currency. US Treasury Secretary Scott Bessent noted that he is monitoring the fallout closely, as the situation has exerted upward pressure on US Treasury yields. Following high-level talks between the two nations, Japanese Finance Minister Satsuki Katayama announced that the US had signaled its support for currency intervention to stabilize the yen, which recently hit the critical threshold of 160 per dollar.
• The simultaneous occurrence of currency depreciation and rising government bond yields is generally viewed as a signal of deteriorating financial conditions. This “twin-track” weakness suggests that Japan must now rebuild market confidence through one of three difficult paths: achieving significantly stronger economic growth, implementing fiscal austerity, or shortening the duration of its bond issuance.

• Japan, like other major economies, may rely on reducing the average maturity of its government bonds to alleviate pressure on long-term yields. This strategy could appeal to investors wary of duration risk given the scale of anticipated debt issuance. However, it would also increase rollover risks for the government and potentially constrain the central bank’s ability to raise interest rates in the future, thereby opening the door to financial repression via higher inflation.
• The current environment of elevated government spending and political uncertainty continues to support precious metals as a portfolio hedge. We expect this dynamic to persist in the near term. However, once these macro concerns begin to recede, we anticipate a phase of price consolidation in metals, followed by a probable rotation of capital back into equities as investors seek renewed exposure to risk assets.

Europe Reaction: On Tuesday, markets sold off as escalating transatlantic tensions fueled concerns over trade friction between the US and the EU. During the Davos summit, several European leaders spoke candidly about shifting relationship dynamics. French President Emmanuel Macron accused the US of attempting to “subordinate” Europe, while EU Chief Ursula von der Leyen warned that the relationship would not return to its former state. Despite this rhetoric, there are strong indications that cooler heads will prevail.

• Market participants are increasingly concerned that the ongoing dispute over Greenland could jeopardize the EU-US trade agreement established last July. In response, the White House has announced a meeting with European counterparts to further discuss the matter. US officials expressed a commitment to reaching a “reasonable resolution” and cautioned the EU to weigh its options carefully, warning that premature retaliation could escalate the conflict and further destabilize trade relations.
• Meanwhile, a consensus on a retaliation plan has yet to emerge within Europe. While French President Emmanuel Macron suggested the possible activation of the EU’s anti-coercion tool, German Chancellor Friedrich Merz tempered those remarks, stating a clear preference for avoiding escalation with the US. Simultaneously, Italian Prime Minister Giorgia Meloni advocated for open dialogue, attributing the friction to what she described as poor communication from her American counterparts.
• Although a full-scale trade war isn’t a certainty, the White House is clearly using its economic weight to force a resolution on Greenland. President Trump has signaled that his strategy may expand beyond tariffs to secure the territory, a move that has met fierce resistance in Europe. President Macron has already pushed back, stating flatly that France will not permit the region to be bullied.
• While uncertainty remains high, we recommend staying the course in the markets. History shows that equities are resilient during trade negotiations, especially given the administration’s tendency to pivot when markets show signs of strain. We favor a diversified approach, gaining exposure to value stocks as a way to mitigate volatility. This strategy should limit some of the downside risks.

US-China Trade Talks: Trade tensions between the world’s two largest economies are showing signs of easing. On Tuesday, US Trade Representative Jamieson Greer hinted at a potential new round of negotiations with China, focused initially on expanding trade in non-sensitive goods. This development follows a Monday meeting between US Treasury Secretary Scott Bessent and Chinese Vice Premier He Lifeng. A positive trade agreement would likely provide a significant boost to global risk assets.

US Tech Gap Closing: The CEO of Google DeepMind has noted that China’s top AI firms currently trail leading Western labs by about six months. This gap persists despite China developing unconventional methods to advance its models after US trade restrictions cut off access to key Western technologies. The intensifying competition is expected to drive greater investment in the AI sector as the United States works to maintain its technological lead.

Supreme Court Hearings: The US Supreme Court is set to hear a landmark case regarding the president’s authority to dismiss Federal Reserve Governor Lisa Cook. The ruling will determine whether the president can remove a Federal Reserve Board member based on allegations alone, or if the “for cause” protections within the Federal Reserve Act prevail. The case stems from accusations made by FHFA Head Bill Pulte, who alleged that Cook falsified documents to secure favorable loans — a claim Cook has denied while presenting evidence to the contrary.

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