Markets Little Changed as Breakout Awaited

new Arrows

  • The key event is the much-awaited speech US President Trump gives to a joint session of Congress this evening (early Wednesday in Asia)
  • The market increased the odds of a March hike yesterday
  • The US session features a likely upward revision to Q4 growth to 2.1% from 1.9%
  • South Africa reports January trade and budget data; Hungary is expected to keep policy steady

The dollar is mostly softer against the majors ahead of Trump’s speech tonight. Many expect month-end flows to be dollar-negative. The Swiss franc and the Swedish krona are outperforming, while the dollar bloc is underperforming. EM currencies are mixed. SGD and KRW are outperforming, while MXN and THB are underperforming. MSCI Asia Pacific was down 0.1%, with the Nikkei rising 0.1%. MSCI EM is down 0.2%, with China shares rising 0.2%. Euro Stoxx 600 is flat near midday, while S&P futures are pointing to a lower open. The 10-year UST yield is flat at 2.37%. Commodity prices are mostly, with oil down 0.2%, copper down 0.3%, and gold flat.

The capital markets are becalmed and the US dollar is in narrow trading ranges. Month-end considerations are at work, but the key event is much-awaited speech US President Trump gives to a joint session of Congress this evening (early Wednesday in Asia). The hope is that he provides the policy signals that allow the dollar to breakout of its recent ranges. The combination of fiscal stimulus and less accommodative monetary policy is thought to be dollar-friendly.

At the same time, given the build-up, the mercurial temperament, and unorthodox style of this administration, it could set up investors for disappointment. The Dow Jones Industrials have rallied for a dozen consecutive sessions, and the S&P 500 is off only three sessions this month, coming into today. The speculative long dollar position has been reduced in the futures market, but it remains net short euros, sterling and yen. However, speculators are also net long the dollar-bloc currencies.

There seems to be several ways that expectations could be disappointed, but what they have in common is dampening of expectations for fiscal stimulus. Yesterday’s call for a substantial increase in defense spending (while cutting discretionary spending) may run into difficulties getting around rules designed to avoid precisely that. In any event, the Trump economic team appears committed to stronger US growth via trade adjustment, tax reform, deregulation, and infrastructure spending.

Although the Republicans hold both houses of Congress and the White House, its slim majority in the Senate denies it carte blanche. Also, some Republicans in Congress and some Republicans in the White House do not see eye-to-eye on the full range of fiscal issues. The comprehensive tax reform efforts are predicated on raising sufficient revenue to avoid or minimize the impact on the deficit and debt.

There are two main sources of revenue in this approach. 1) Taxes that are currently being used to fund national health care (for which opinion surveys now suggest greater support just as it is about to be fundamentally altered) and 2) the proposed border adjustment tax on imports. Between the two there is more than $2.0 trillion that theoretically can be used to fund tax cuts that in the dynamic accounting and optimistic assumptions can actually increase revenue. Both sources are not as solid is it may have appeared even a few weeks ago. The repeal and replacing of the national health care is turning out to be more complicated than officials understood, and the border adjustment appears not to have the necessary support in the Senate.

Trump’s speech is likely to be a broad wish list, and then he will call upon Congress to deliver.   He does not need to prioritize his programs. Treasury Secretary Mnuchin said last week that the infrastructure initiative is more a 2018 story, but yesterday Trump pressed this issue.   Nevertheless, it does not seem that fiscal policy will be a major factor in the Fed’s decision in two weeks about raising interest rates.

The market increased the odds of a March hike yesterday. According to Bloomberg, the Fed funds futures contract has discounted a 50% chance of a hike, while its calculation using the overnight index swaps (OIS) is 57.1%. The CME (where Fed funds futures are used) estimates the probability of a March hike at 31%.

The news stream is light. Japanese industrial output unexpectedly fell in January, for the first time since last July. The 0.8% decline contrasts to expectations for a 0.4% increase. The January decline comes after rise of nearly the same magnitude in December (0.7%). Australia reported a smaller current account deficit in Q4 (A$4.0 bln from Q3 revised A$10.2 bln (which could have a small knock on effect on expectations for tomorrow’s GDP report.

Preliminary French and Italian inflation figures were reported, and they moved in opposite directions. Italian CPI rose 0.2% in February. The Bloomberg median estimate was for a 0.1% decline. The year-over-year rate rose to 1.6% from 1.0%. France’s estimate rose 0.1% rather than the median estimate of 0.4%. The year-over-year rate slipped to 1.4% from 1.6%.

In terms of economic data, the US session features a likely upward revision to Q4 growth to 2.1% from 1.9%, helped in part by better consumption. The preliminary merchandise trade balance for January will be reported at the same time. The wholesale and retail inventories will be reported too and may be overshadowed by the other data. Later will be house prices, Chicago PMI, and the Conference Board’s consumer confidence measure. The Fed’s Harker and Williams speak toward the end of the session, while Bullard speak a couple of hours before the President.

South Africa reports January trade and budget data. Earlier, it reported January money and loan data, with both series accelerating from December growth rates. The budget for FY2017/18 focused on austerity at the expense of growth. Monetary tightening is likely over for now, but further fiscal tightening will be another headwind for the economy. Next policy meeting is March 30, and no change is likely.

National Bank of Hungary is expected to keep policy steady. The bank plans to review unconventional policy (its benchmark deposit cap) at the March meeting. Earlier, January PPI was reported as rising 2.2% y/y vs. 0.5% in December. With inflation rising, the central bank may tilt less dovish in the coming months. Hungary reports January retail sales Friday, which are expected to rise 4.0% y/y vs. a revised 3.3% in December.