Market Brief: Dollar Retreat Gains Momentum on Tech Sector Plunge

Futures on US stock markets are tumbling this morning as outsized performance gains from China’s DeepSeek artificial intelligence start-up raise uncomfortable questions about the competitive moats surrounding America’s biggest tech firms. According to artificial intelligence experts, a thinly-resourced open-source large language model released by the Chinese company last week shows comparable performance to those built by US firms like OpenAI and Meta, suggesting that the race among Silicon Valley firms to invest tens of billions of dollars in advanced chips may not pay off—at least not for those on the vanguard. DeepSeek’s chatbot topped downloads on Apple’s App Store over the weekend, leaving Nvidia shares down 12 percent, Microsoft off X percent, and Meta with a -3 percent loss. The Nasdaq index is set to open -4 percent lower.

A flight out of dollar-denominated assets is spreading across financial markets, adding to a move that unfolded last week when newly-inaugurated US President Donald Trump signalled a more measured approach to raising tariffs on the country’s most important trading partners. On a trade-weighted basis, the greenback has retreated more than 2 percent from last Monday’s levels, ten-year Treasury yields are down more than 10 basis points, and the pound, euro, and yen are all holding gains exceeding 1 percent.

We have no idea as to whether today’s selloff will be sustained. US markets have repeatedly rebounded in recent years, and it would be foolish to extrapolate a brief moment of weakness forward. But it is clear that equity markets are trading in rarefied air: as previously noted, the market capitalisation-to-gross domestic product ratio (sometimes known as the ‘Buffett indicator) is extremely elevated relative to history, at levels above those that preceded the 1929 crash, the dotcom collapse, and the global financial crisis. This suggests that investors may be overly crowded into bets on continued artificial intelligence-powered US exceptionalism.

Confidence was shaken last night when Trump imposed tariffs and financial sanctions on Colombia—only to reverse them a few hours later—during a dispute over deported migrants. Trump announced immediate “emergency” 25-percent tariffs and financial sanctions after Bogotá refused landing permission to two US military aircraft* carrying deportees, but then paused implementation after a brief war of words on Twitter when Colombian president Gustavo Petro said he would send his own flight to pick up the migrants.

It might seem obvious, but the episode suggests Trump’s use of tariffs isn’t aimed at addressing trade imbalances, and that there are no meaningful hurdles to their implementation. The US has run a trade surplus with Colombia for many years, the president noted that he would apply tariffs and other sanctions under the International Emergency Economic Powers Act, and the domestic political negatives associated with hitting chocolate and flowers with substantial import taxes just two weeks away from Valentine’s Day** appear not to have dissuaded him in any way.

For Canada and Mexico, where tariffs could be applied as soon as Saturday, this should cause some discomfort, suggesting that whatever is now underway, it is not a “trade war” in conventional terms. According to a report in the Wall Street Journal over the weekend, Trump is “as serious as a heart attack” about executing on his threats, and appears wholly unconcerned about the disruption that could be caused across North American supply chains. Both Canada and Mexico have temporary off-ramps available—Canada can (and probably should) deliver a widely-publicised increase in defence spending to meet or exceed its NATO commitments, and Mexico could launch a symbolic crackdown on drug cartels—but the reality is that domestic political constituencies in both countries could react negatively to signs of capitulation, and nothing about Trump’s previous negotiations with other countries would suggest that tariff threats won’t simply return at a later date. Volatility discounts look likely to remain embedded in the loonie and peso for the foreseeable future.

In the week ahead, a raft of data releases are likely to support the case for an extended pause in the Federal Reserve’s easing cycle. The world’s most powerful central bank is overwhelmingly expected to stay on hold in Wednesday’s decision, with the accompanying statement remaining largely unchanged and Chair Powell delivering a relatively-hawkish performance during the press conference—in line with December’s meeting and appearances since. Thursday’s gross domestic product release is likely to show the economy growing at an annualised rate between 2.8 and 3 percent in the fourth quarter of last year, Friday’s Employment Cost Index should show earnings rising around 0.9 percent over the same time frame, and the December personal consumption expenditures print should show core inflation stabilising near the 2.8-percent mark.

The Bank of Canada’s meeting on Wednesday morning—a few hours ahead of the Fed—could prove more interesting. Traders have a quarter-point rate cut fully priced in, but signs of an economic thaw—higher consumption, rising real estate values, and stronger job creation rates—could inject a note of hawkish caution on what the future might bring. We think rates will need to move further down given the elevated level of uncertainty facing the economy from trade and political risks, but expect that policymakers will want to preserve optionality in the months to come as they assess incoming data.

Across the pond, the European Central Bank will almost certainly deliver a well-telegraphed quarter-point cut on Thursday morning, and its forward guidance should remain broadly unchanged. Friday’s fourth-quarter gross domestic product release is expected to show output expanding 0.25 percent relative to the prior quarter, consistent with around 1 percent on an annualised basis—well below the pace seen in the US, and consistent with a significant degree of economic slack. Signs of a more measured approach to easing from President Christine Lagarde could lend the euro some support during the press conference, but market participants are likely to remain focused on developments in broader currency markets—and at the White House—more than on the evolving balance of opinion among Europe’s central bankers.

*Under the Biden administration, at least 120 plane-loads of migrants were sent to Colombia (four already in January), but the flights were run by commercial airlines.

**Thank you, Mr. Trump, for the reminder.

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