Fear’s Been Replaced

As talks with the Chinese progress
Investors are feeling less stress
Thus fear’s been replaced
By greed with great haste
Despite the Fed’s shrinking largesse

Following on Friday’s blowout jobs report in the US, the good news just keeps on coming. Yesterday and today, the market’s collective attention has been on the seeming positive vibes coming from the US-Chinese trade talks ongoing in Beijing. While there has been no announcement thus far, hints by US officials (Kudlow and Ross) point to genuine progress being made. One of the things that has been extensively covered by the press in this round of negotiations is the administration’s efforts to not merely agree to a deal, but to insure that the Chinese adhere to their promises. Historically, this has not always been the case, which has been a source of much of the friction between the two nations. However, it does appear that the Chinese economy is slowing more rapidly than President Xi would like to see, and that the pressure to get it growing again is increasing. Thus, it is not impossible to believe that a deal of some sort will be coming together over the next several months. If pressed, I would guess that March will not be enough time to agree everything, but that there will be an extension of the current tariff regime (rather than any further increases) based on the positive momentum.

If the market is correct in forecasting a successful round of trade negotiations, then that will certainly reinvigorate the global growth story to some extent. And based on recent data releases, the world needs some good news. In the latest example of weakening data, Eurozone Sentiment indicators all fell sharply across the board. This included Business Confidence, Consumer Confidence and Economic Sentiment amongst others. The weakness was prevalent across all the major Eurozone nations as the numbers fell to their lowest levels in roughly two years. Once again, this raises the question of how much policy tightening the ECB can impose in a softening economy. Euro bulls need more than Signor Draghi’s words to make the case for actual interest rate increases, but given recent economic data, that is all they have. With this in mind, it should be no surprise that the euro has ceded some of its recent gains, but in truth, its 0.2% decline this morning just doesn’t seem that impressive.

Looking elsewhere in the G10 space, the Brexit story continues to unfold as expectations grow for the Parliamentary vote on the deal to be held next Tuesday, January 15. As of this writing, those expectations remain for the deal to be voted down by Parliament, although there is a rearguard action that is trying to simultaneously prevent the UK from exiting the EU with no deal. It seems unlikely that if Parliament votes no on this deal that there will be any ability to change the deal in a substantive manner to garner the required approval. And the Irish border situation has not gotten any less intractable in the interim. At this point, I would estimate that the odds are 50:50 that Parliament eventually buckles amidst the fear of a no-deal Brexit. The thing is, for currency hedgers, given the likely asymmetry of the outcome on the pound’s value, with a no-deal resulting in a much larger decline than the rally resulting from a deal, expected value of the pound remains lower, and needs to be addressed with that in mind. In other words, make sure you are max hedged against long GBP positions.

And in truth, those are the only stories of note. With oil prices edging higher the past two sessions (although WTI remains below $50/bbl), both CAD and NOK have bucked the trend today and strengthened modestly. However, the rest of the G10 is softer vs. the dollar by about 0.15%-0.25%. In the EMG space, the dollar has shown a bit more bounce, rallying by 1.3% vs. TRY, 0.5% vs. BRL and 0.7% vs. both ZAR and KRW. But despite today’s gains, those currencies all remain much firmer on the week, as the dollar has been a key underperformer during the past several sessions’ risk-on sentiment. In fact, I would estimate that today’s movement is simply some profit taking rather than anything more fundamental.

With the government shutdown ongoing here, data releases are subject to delay, specifically Friday’s CPI numbers, though today’s JOLT’s Jobs report (exp 7.063M) is published by the Labor Department so it may be delayed as well. Given its relative unimportance, I don’t foresee that being an issue, but if the shutdown continues for a much longer time, certainly markets, if not the Fed, will have less timely information regarding economic performance, and that is likely to be a negative. In the meantime, a quick look at equity futures shows that hope springs eternal with both Dow and S&P futures pointing higher by 0.8%. At this point, it certainly seems like risk will continue to be embraced, which is likely to prevent any further dollar strength in the short run.

Good luck
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