Monday Digest
Posted 26 January 2026
Weak links in the outlook
Trump threatened and retreated, but markets ended slightly down last week. On the bright side, the TACO trade is protecting against the downside.
40-year Japanese government bonds (JGBs) broke through 4% for the first time ever. The long-maturity JGB market is notoriously illiquid, dominated by large insurance companies. Japan’s recent economic and stock market strength actually lessened their need to hold JGBs, which worsened liquidity and allowed small selling pressures (after Takaichi’s tax cuts) to become a sharp sell-off. Just like UK bonds after the ‘Liz Truss moment’, there will be eager buyers for historically cheap JGBs, but they may stay cheap for some time.
US Treasury Secretary Bessent was wrong to blame Japan for the increase in US yields, however. US yields rose higher than others and the dollar weakened – a clear policy risk signal. US bond fundamentals are changing too: wage and supply chain pressures have hardened the inflation and interest rate outlook. US credit demand has disappointed in response – proving money demand is rate sensitive. The government could borrow more to offset (and it probably will) but that will raise yields further. Incidentally, the UK is one of the few governments pursuing mild fiscal discipline to decent effect, but markets just don’t think it will last beyond May’s local elections.
European assets were weighed down by higher energy prices last week, as well as Greenland threats. Natural gas futures spiked on fears that Trump could hold LNG shipments to ransom, and they stayed elevated even after Trump backed down on Greenland. Geopolitical crises can scar markets even if they change little in the short-term. Washington’s confrontational start to the year shines a light on the weak links in the 2026 outlook, particularly around bond yields and gas prices. Markets could do with some calm, but Trump is already talking about another US government shutdown. We won’t hold our beath.
Trump’s soft underbelly
If Europe wants to stop another Greenland crisis, it could help to focus on what American voters – Trump’s base in particular – care about. The majority are opposed to taking Greenland either by force of purchase (only Republicans are in favour of purchasing the territory) but that doesn’t necessarily mean it will be a big electoral issue in November’s midterms. Foreign policy usually only impacts US elections when there is a ‘boots on the ground’ war, which should at least soothe European fears about an invasion. However, affordability (importantly, not inflation) is Trump’s weakest issue with voters, so perhaps shouldn’t be surprised that the 10-25% tariff threats were dropped.
President Macron suggested the EU could use its anti-coercion instrument (ACI) in response to US threats – which would take months to pass but could seriously harm the US. US threats could also backfire on its bonds. Trump and US treasury secretary Bessent dismissed the idea that Europeans could dump US treasury bonds, but we see signs of international investors already reducing their US exposures. According to John Murillo of B2Broker, the ‘Sell America’ narrative is gaining traction, which could result in “higher bond yields, tighter financial conditions, and reduced liquidity for (US) businesses that rely on stable access to capital.”
We can question how much Trump listens to public or market opinion, but he does tend to back down when things threaten to get nasty for his base. That should motivate European leaders to be a little bolder in their responses. Canadian Prime Minister Mark Carney declared at Davos last week that western leaders shouldn’t mourn the old rules-based order because “nostalgia isn’t a strategy”. European leaders could learn something from this, as well as from China and Brazil’s forceful responses to past tariffs, which seems to have earned them more respect from Trump than the EU’s fairly quick acceptance of 15% tariffs.
US consumers and the wealth effect
JP Morgan traders think that US consumers have more cash than ever before, supporting US markets and the economy the same way ‘excess savings’ (a measure of the pandemic-era cash boost) did a few years ago. We’re not sure. We see this as a long-term savings offset to stocks.
JPM’s measure of the “Consumer Cash Pile” (checking and savings accounts, and money market funds) hit a record $22tn in Q3 2025. Almost all income cohorts have more cash in real terms than pre-pandemic, apart from the bottom 20% of earners. Liquid savings support not just consumption but US risk assets, by backing lending and reducing volatility.
However, the proportion of US household assets that are liquid is now at historical lows. Americans are putting their capital into higher risk and return assets like stocks. You could argue that’s a good thing – going hand in hand with the strength of US markets. Stocks are better investments than cash in savings accounts over the very long-term, and it helps an economy when domestic consumers are heavily invested in their own assets. But it also means US savers are taking on more risk than ever before, perhaps without even knowing it.
The higher proportion of equities also increases the wealth effect, tying US consumer demand ever tighter to the ups and downs of US stocks. For years, the outperformance of US stocks has helped US balance sheets, boosting consumption and economic growth – which feeds into corporate profits and back into US stocks. But what happens if the cycle reverses? US growth slowed into the end of 2025, coinciding with equity fund outflows. Large institutional investors are now diversifying their holdings away from the US too, due to political uncertainties. If this continues and the wealth effect reverses, profits will be under threat.