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Market Briefing
Week Ahead: America Rehearsed

Karl Schamotta January 29, 2018

With a number of economic and political cross-currents poised to intersect under the surface, currency markets could turn treacherous in the days ahead.

Few expect the Federal Reserve to raise interest rates when it announces its latest decision on Wednesday – but a more optimistic statement could prepare markets for a hike at the March meeting. With slack in the employment nearing critical levels, inflation rates rebounding, financial conditions loosening at an incredibly pace, and the economy going gangbusters, the stage is set for a ‘hawkish hold’.

Policymakers are likely to replace “roughly balanced” language with “balanced” when discussing near-term threats, in a subtle-but-effective acknowledgement that the monetary tightening risk equilibria is swiftly tilting to the upside. The path forward will remain data-dependent as Janet Yellen hands the reins to Jerome Powell – but any daylight remaining between the Federal Reserve’s three-hike forecast and market expectations is quickly disappearing.

On Friday, January non-farm payrolls numbers will be released – but, in contrast with a number of prior prints, market expectations are set at a relatively-lower threshold. According to numbers published last week, economic growth decelerated from 3.2 percent on an annualized basis in the third quarter to 2.6 percent in the fourth, suggesting that employment growth may have weakened somewhat. Given that softness in the headline growth number was largely attributable to a rise in imports, we suspect that the fundamentals supporting job creation remained largely intact into January – but the early-year cold snap may have a more significant effect.

Perhaps most importantly, Donald Trump will deliver his first State of the Union address tomorrow evening. Fighting historically-low approval ratings, the President is likely to sound a more conciliatory note, emphasizing tax reform, infrastructure, and immigration plans in a well-rehearsed speech – but he could have an impact on exchange rates by more clearly articulating the administration’s evolving views on trade.

In the last month, Trump has taken aim at China, Canada, Mexico and the European Union, but his efforts have been largely rhetorical in nature – and meaningless in the context of imbalances which primarily originate in capital accounts. With a number of negotiations bogged down in detail and talk of deadline extensions in the air, there is some evidence that broader executive branch itself has developed a greater understanding of the economic and geopolitical risks that face the United States if it continues down such a confrontational path – suggesting that a more gradualist doctrine could be applied behind the bright glare of the news cycle.

But…. with asset prices sitting at unprecedented heights, implied volatility pinned near extraordinarily-low levels, and economists almost-universally aligned around the idea of a “synchronized global expansion”, the prospect of a global trade war has faded from the collective market memory – and an escalation in the President’s rhetoric could certainly bring the fear trade roaring back.

This suggests that risk premia could rise ahead of, and during the address itself. If so, owning optionality and holding dollars could become slightly more attractive for market participants, meaning that a technical correction in the greenback’s long slide could happen – at least until the audience realizes that Trump is simply reading from a teleprompter…

Have a great week!



Background Reading

Wall Street Journal: Tax Incentive Puts More Robots on Factory Floors
Aeon: The Real Adam Smith
Carnegie Endowment: Protectionism Can’t Fix Trade Imbalances
Bloomberg: The Dark Side of America’s Rise to Oil Superpower
The Guardian: Britons Favour Second Referendum By 16-Point Margin
Flowing Data: A Day in the Life of Americans
Project Syndicate: How to Lose a Trade War



Scheduled Data Releases

05:00    **         EUR Euro-Zone Gross Domestic Product, Q4
10:00    **         USD Consumer Confidence Index, January
10:30    **         GBP Bank of England Speech, Carney
19:30    *          AUD Consumer Prices Indices, Q4
20:00    **         CNY Manufacturing Purchasing Manager Indices, January
21:00    ***       USD State of the Union Address

03:55    *          EUR German Unemployment, January
04:50    *          EUR European Central Bank Speech, Coeure
05:00    **         EUR Euro-Zone Consumer Price Indices, January
08:30    ***       CAD Gross Domestic Product, November
10:30    *          USD Department of Energy Weekly Inventories
14:00    ***       USD Federal Open Market Committee Rate Decision

04:00    *          EUR Purchasing Manager Indices, Manufacturing, January
04:30    *          GBP Purchasing Manager Index, Manufacturing, January
06:15    *          EUR European Central Bank Speech, Praet
08:30    **         USD Weekly Claims
12:30    *          GBP Bank of England Speech, Brazier

05:00    *          EUR European Central Bank Speech, Coeure
08:30    ***       USD Non-Farm Payrolls, January
10:00    ***       USD Factory, Durable Goods Orders, January
10:00    *          USD University of Michigan Sentiment Survey, Early January
13:00    **         USD Baker Hughes Weekly Rig Count
15:30    *          USD Federal Reserve Speech, Williams

Note: Asterisks indicate our preliminary estimate of the potential market impact associated with each event. One asterisk indicates an event with the lowest, two for a moderate impact, and three for the highest expected impact.

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