By Jamie Chisholm
Strategist points to developments in both the U.S. and Japan that could trigger a stock-market slump
The S&P 500 SPX has seen all its gains for the year wiped out. Investors are again jittery about big tech valuations after Nvidia (NVDA) delivered earnings and guidance late Wednesday. Uncertainty over the economic impact of DOGE-driven job cuts and constant Trump tariff talk has hit trader sentiment.
Meanwhile, there’s another danger lurking in the background that may sow the seeds for the next financial shock, according to Dhaval Joshi, chief strategist of BCA Research’s Counterpoint global macro service.
His concerns center around the differing inflation profiles of the U.S. and U.K on one side and the European Union and Japan on the other. To simplify, Joshi argues that inflation and deflation shocks stay in the collective memory for a long time, and inflation expectations are stickier in the former and much less so in the latter.
With economic growth slowing in the U.S. and U.K, both countries are thus vulnerable to what Joshi calls “mini-stagflation”. Growth may be meager in the EU and Japan too, but there is a relatively more disinflationary/deflationary mindset in those economies.
“This setup of above-par inflation expectations in the U.S. and U.K. combined with at-par inflation expectations in the euro area and Japan has major implications for relative central bank policy. Worryingly though, it also sows the seeds for the next financial shock,” says Joshi.
Why so? Well, of the three economies’ central banks only the Bank of Japan is in a tightening cycle. “With inflation expectations back at 2%, a zero-interest rate policy is no longer fit for purpose. The BoJ must rapidly normalize interest rates to its estimate of neutral at 1-2.5%,” says Joshi.
BoJ Governor Kazuo Ueda has said, the BoJ must carefully consider “developments in overseas economies, especially the U.S. economy, and their impact on financial and foreign exchange markets”.
In other words, a Fed that’s on hold for a mini-stagflation makes it easier for its Japanese peer to normalize rates.
And this is a problem for Wall Street. Joshi is among those who believe that an important carry trade in recent years was to borrow cheaply in yen to buy AI-related U.S. stocks. “Japan’s deeply negative real rates have inflated the AI bubble. Therefore, the normalization of Japanese interest rates is a prime candidate to burst it,” he says.
Joshi notes that the yen/AI carry trade is reflexive. It requires both a funding currency with stably low or negative yields (the yen); and a destination investment with stably high returns (AI stocks).
“So, the bubble could burst: either if the stably low yield on the yen funding ends; or if the euphoria around AI stocks is shattered,” he argues. As evidence of the relationship he provides the chart below, which shows that since early-2023 there has been a inverse correlation between Microsoft’s (MSFT) valuation and the Japanese 10-year real bond yield.
Consequently, the Japanese real bond yield turning positive would be a shock for the U.S. equity market.
A simpler way to track this is by watching the U.S. dollar to Japanese yen exchange rate (USDJPY). “[I]f dollar/yen fell below 145 it would almost certainly coincide with an air-pocket in the global stock market,” says Joshi. The rate is currently just above 150.
Joshi says there are three investment plays that hold true irrespective of how long it takes for a deflationary shock to end the U.S. mini-stagflation: Overweight the yen; underweight the euro; and underweight U.S. stocks in a global portfolio.
Markets
U.S. stock-index futures (ES00) (YM00) (NQ00) are higher as benchmark Treasury yields BX:TMUBMUSD10Y dip. The dollar index DXY is up, while oil prices (CL.1) fall and gold (GC00) is trading around $2,865 an ounce.
Bitcoin (BTCUSD) fell below $80,000 early Friday, its lowest price since mid November. Shares of bitcoin hoarder Strategy (MSTR) are down 5% in premarket action.
Key asset performance Last 5d 1m YTD 1y S&P 500 5861.57 -4.18% -3.45% -0.34% 15.02% Nasdaq Composite 18,544.42 -7.10% -5.78% -3.97% 15.24% 10-year Treasury 4.246 -18.40 -29.50 -33.00 6.10 Gold 2874.4 -2.55% 1.52% 8.91% 37.43% Oil 69.53 -1.01% -5.80% -3.26% -12.87% Data: MarketWatch. Treasury yields change expressed in basis points
The buzz
The January reading of the personal consumption expenditure price index – the Fed’s favored inflation gauge – will be published at 8:30 a.m. Eastern.
Other U.S. economic data due on Friday include the advanced trade balance in goods alongside advanced retail and wholesale inventories, all for January and all published at 8:30 a.m.
Richmond Fed President Tom Barkin speaks at 8:30 a.m. and Chicago Fed President Austan Goolsbee speaks at 10:15 a.m.
Dell Technologies (DELL) late Thursday reported weaker-than-expected sales with its 2025 outlook close to analyst expectations.
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The chart
Among the top retail-traded stocks, Palantir (PLTR) could be the most vulnerable to a loss of retail momentum, according to Vanda Research, which provides the chart below.
“The stock is currently down about 28% from its all-time high and retail dip-buying has slowed. To be clear, the stock is still 440% higher than at the start of 2024 and retail flows have yet to show any signs of meaningful selling. That said, if I were to pick a single name that could be most at risk of an unwind, PLTR would be it,” says Marco Iachini, senior vice president at Vanda.
Top tickers
Here were the most active stock-market tickers on MarketWatch as of 6 a.m. Eastern.
Ticker Security name NVDA Nvidia TSLA Tesla PLTR Palantir Technologies GME GameStop SMCI Super Micro Computer MSTR Strategy NIO NIO AAPL Apple TSM Taiwan Semiconductor Manufacturing HOLO MicroCloud Hologram
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-Jamie Chisholm
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02-28-25 0635ET
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