3 USD Talking Points
The first point is the observation that while President Trump has taken credit for the record stock market, the strength of the economy, the low unemployment rate and business confidence, there has been no mention of the dollar, which closed lower for its seventh consecutive month.
There have been no fresh legislative initiatives and although many executive orders have been signed, economic performance appears to be largely doing what is has done since the middle of 2009. Moreover, the IMF recently revised down this and next year’s GDP forecasts for the US.
The rise of the stock market seems to be a function of broad considerations. Earnings growth in Q1 and Q2 helped, but the underlying driver seems to be low interest rates and share buybacks. Many economists — and some Fed officials — are concerned about the heights the stock market has reached on valuation grounds. Equity gains are a favorable assessment, which happen when the market corrects. Before today, the rising dollar was cited as a vote of confidence.
The second talking point concerns the ECB. At the press conference following the recent ECB meeting, Draghi indicated that officials were aware of the euro’s rise. At the time, we noted that it was not much of a protest. The market realized this and continued taking the euro higher. If EUR continues to rise beyond $1.20 at the time of the September ECB meeting — and the pace appears to be accelerating — Draghi may be more forceful. And that may be more difficult to signal, especially if the ECB also announces that starting next year, it will reduce the amount of assets it buys.
The third talking points is this week’s MPC meeting. I suggest that there may be a trade-off between the vote on rates and the Quarterly Inflation Report, which is released at the same time. If Haldane, who has warned he may favor a rate hike, does make good on his threat, I suspect that Carney will seek to soften the blow by having a more dovish inflation report, which would play up the transitory factors — oil and sterling’s past slide. On the other hand, if Haldane continues to vote with Carney, then the statement can be seen as more hawkish. I think sterling’s strength is being exaggerated by the dollar’s weakness and that sterling remains weak against the euro.
In the big picture, I suggest that while the dollar is likely to weaken, I continue to view the gains as corrective in nature after the large rally post-2014 rally. I do not think we have seen peak pergence and neither the euro, sterling or the Dollar Index have surpassed levels that are commonly associated with technical corrections.