Drivers for the Week Ahead

windy road at dusk

  • Even with the weaker than expected wage growth in January, investors saw a greater chance of a June hike
  • Given the recent ECB and BOE meetings and preliminary estimates for Q4 16 GDP, data from December are unlikely to move markets
  • The RBA and RBNZ hold policy meetings in the week
  • Canada reports December trade figures and January employment data

The dollar is mostly firmer against the majors. The Loonie and the yen are outperforming, while the euro and the Scandies are underperforming. EM currencies are mixed. KRW and TRY are outperforming, while ZAR is underperforming. MSCI Asia Pacific was up 0.5%, with the Nikkei rising 0.3%. MSCI EM is up 0.7%, with China markets rising 0.3%. Euro Stoxx 600 is up 0.2% near midday, while S&P futures are pointing to a lower open. The 10-year UST yield is down 2 bp at 2.45%. Commodity prices are mixed, with Brent oil down 0.2%, copper up 1%, and gold up 0.2%.

The US dollar has been correcting lower since mid-December. Interest rates have begun moving in the dollar’s favor, and the equity market is again knocking on record highs. The US economic data, coupled with Fed comments, should keep the Fed on track to hike rates.

Even with the weaker than expected wage growth in January, investors saw a greater chance of a June hike. Yellen has warned of a “nasty surprise” if the Fed waits too long, and even the dovish Chicago Fed President Evans seems to have endorsed two, and possibly three hikes this year.

This year is different than 2015 and 2016, when the Fed hiked rates in December both years. The Fed is more confident of the underlying resilience of the economy and surer that price pressures will continue.   In December, the FOMC statement said that “…inflation is expected to rise…” Last week the FOMC statement said that “…inflation will rise…”

The five-year breakeven (conventional yield minus the yield on the five-year inflation protected security) closed above 2% for the second consecutive week. A year ago it was a little more than 1%. The 10-year breakeven has closed above 2% for four consecutive weeks. It is approaching 2.10%, the highest since September 2014.

The US economic calendar turns lighter this week. However, after a disappointing first estimate for Q4 16 GDP, the typically more conservative NY Fed GDP tracker is pointing to 2.9% growth in the current quarter. The Atlanta Fed sees the economy tracking 3.4%.

The unpredictable nature of the new US Administration, and its seeming willingness to antagonize allies and rivals alike as well as making arbitrary judgments, appears to have increased the uncertainty. Although Administration officials articulate pro-growth sentiment, there is a concern that other policies will undermine the investment climate.

Still, as the Trump Administration begins turning its attention to its economic agenda, investors’ confidence may be bolstered. Already a group of large exporters, including GE, Boeing and Oracle are forming a lobby to support the border tax. The executive order to review Dodd-Frank, signed before the weekend, sent the S&P 500 financial index up 2%, with several of the large bank shares rallying the most in three months.

However, the focus seems to be on parts of the legislation (like the Volcker Rule that curbs proprietary trading by banks) which were seen a conflict of interests and encouraging risk taking that is ultimately backstopped by taxpayers’ money. Also, the fiduciary rule, which forces financial advisers to put client interests first in managing retirement savings, has also incurred the wrath of the President. These are not the kind of things that will help Trump’s supporters or broaden his base.

The vice-chair of the House Financial Services Committee sent a pointed letter to the Federal Reserve demanding that it ceases and desist from continuing to participate in multilateral financial regulation negotiations, including the Financial Stability Board. The letter is not from the chair of the committee or President Trump. Nevertheless, it is important, and the Federal Reserve will respond, perhaps in the days ahead. Yellen will deliver her semi-annual testimony to Congress in the middle of the month, and this will likely be a key topic. Like other positions Trump is staking out, the claim that US participation in global regulatory efforts is undermining US growth has been made for several years by top US bankers, including JP Morgan’s Jamie Dimon.

Given the recent ECB and BOE meetings and preliminary estimates for Q4 16 GDP, data from December are unlikely to move markets. Investors seem to be focused on three things: Brexit, European elections, and the sharp rise in European interest rates and expanding premiums over Germany. UK Prime Minister May is widely anticipated to formally trigger Article 50 next month and begin the two-year negotiation process. Meanwhile, the next month’s Dutch elections are not drawing the same attention as the French election even though the populist-nationalist forces seem stronger.

In France, Fillon, who had been the leading candidate to meet Le Pen in the second round, has been undermined by a scandal in which he hired family members as advisers with lucrative salaries. Macron, the former Socialist who broke away to form his own centrist party, is on the ascendancy. As it stands now, it appears that the populist-nationalist shift in the UK and the US is seeing support for the EU rising in Europe. It is forcing liberal (in the European sense) global elites to offer a better defense of their vision and forging a bulwark against the spread of populism-nationalism.

It is still the early days, but there does appear to be a reasonably good chance that a coalition government in the Netherlands excludes the Freedom Party, even if it gets a plurality of the vote. Le Pen is likely to lose in the second round of the French elections. In Germany, the CDU and SPD are most likely to form another coalition government, with Merkel as Chancellor. The AfD are barely drawing one in nine voters.