Does the Fed’s view mirror the market’s?
Today's news headlines:
- ‘Donald Trump turns to Brexit and Huawei as protests planned in London’. A blimp depicting Trump as a baby in a diaper will be back today as thousands of protesters across London march against the US President. Trump will seek to pressure Theresa May and her would-be successors to block Huawei from any role in the UK’s 5G networks. (Reuters)
- ‘Political instability is no longer confined to emerging markets’. More fragmented national and regional politics across the globe threaten to contaminate economics. The weaponisation of economic tools in developed nations will ultimately hamper growth and call into question the credibility of established institutions. (Financial Times)
Time to reignite inflation?
Yesterday evening, St Louis Fed Chief James Bullard publicly confirmed something markets have been signalling for a while, the Fed should cut rates. Inflation has remained sticky below the central bank’s 2.0% target, and Bullard commented: ‘Even if the sharper-than-expected slowdown does not materialise, a rate cut would only mean that inflation and inflation expectations return to target more rapidly’. The result was a continued decline in the S&P 500, US 10-year yields slipped closer to 2.0%, and the Dollar index fell. Data also disappointed as the US ISM Manufacturing Purchasing Managers’ Index (PMI) fell to the lowest level since November 2016. Today, Fed Chief Jerome Powell has his opportunity to counter Bullard’s remarks when he speaks about the Federal Reserve's policy strategy, tools, and communication practices.
Bottom line: Markets are screaming for a rate cut as Fed funds futures indicated as much as 69 basis points of interest-rate cuts this year. The key questions are first, does the Fed’s view of the economy mirror the market’s view, and second, how quickly will the Fed react to events?
And the tension mounts…
Donald Trump’s Twitter salvos at the weekend weren’t just more of the same protectionist, anti-globalism vitriol; the markets reacted in grand fashion. The prospect of multiple simultaneous trade disputes, echoed by lacklustre economic data, has caused a fundamental repricing of global growth and inflation prospects. Brent Crude—fuel demand is a major barometer for economic activity—was making its way towards $70 per barrel, but over the weekend the price gapped lower by nearly 5.0% and has registered a 12.0% loss on the week. Similarly, the equity sell-off has been persistent, if not as dramatic as oil losses, all pointing to risk-aversion among market participants. Since the Tweets were posted, Mexico and China have both voiced retaliatory proposals to US aggression, which only suggests the political tension is increasing.
Bottom line: Throughout yesterday’s session, the Dollar index was sold and rests at the 50-day moving average. Given that the US is the epicentre of these trade tensions—personified by Trump—it is not surprising to see the Dollar has given up most ground to the Yen, the world’s other safe-haven currency.
Yesterday the US ISM manufacturing PMI registered its slowest pace in two-and-a-half years, so it does appear this pair may have bottomed for the time being. The gentle decline of the Pound continues following worsening UK Manufacturing PMI, but there appears to be very little conviction about direction.
Where the Dollar gave up ground, and the Pound continues to tick lower, the Euro gained. Yesterday the trade-weighted Euro broke above the 100-day moving average since October of last year. It is worth remembering that EU economic data was uninspiring so the rally may not be sustained once the reaction-move wanes and fundamentals come back into view.
Given the Dollar and Euro move, it isn’t surprising that the EUR/USD currency pair rallied convincingly yesterday and reached the 100-day moving average. The scope for a further extension of the Euro rally isn’t clear yet. Today’s EU inflation data is expected to show a decline, which might dampen investor ardour for the common currency.