Two rate hikes since last year have weakened the dollar. Why is that, and what’s ahead for dollar, currencies & gold? And while we are at it, we’ll chime in on what may be in store for the stock market…
The chart above shows the S&P 500, the price of gold and the U.S. dollar index since the beginning of 2016. The year 2016 started with a rout in the equity markets which was soon forgotten, allowing the multi-year bull market to continue. After last November’s election we have had the onset of what some refer to as the Trump rally. Volatility in the stock market has come down to what may be historic lows. Of late, many trading days appear to start on a down note, although late day rallies (possibly due to retail money flowing into index funds) are quite common.
Where do stocks go from here? Of late, we have heard outspoken money manager Jeff Gundlach suggests that bear markets only happen if the economy turns down; and that his indicators suggest that there’s no recession in sight. We agree that bear markets are more commonly associated with recessions, but with due respect to Mr. Gundlach, the October 1987 crash is a notable exception. The 1987 crash was an environment that suffered mostly from valuations that had gotten too high; an environment where nothing could possibly go wrong: the concept of “portfolio insurance” was en vogue at the time. Without going into detail of how portfolio insurance worked, let it be said that it relied on market liquidity. The market took a serious nosedive when the linkage between the S&P futures markets and their underlying stocks broke down.
The euro climbed to its strongest level against the dollar since mid-February as the markets reassessed the odds of a December rate rise by the European Central Bank.
A day after mildly hawkish comments from European Central Bank president Mario Draghi helped send the single currency higher, the euro tacked on another 0.9 per cent to hit a three week high of $1.0673 following a report that the ECB had discussed whether rates could rise before it ends its bond buying programme.
However, two people familiar with the discussions denied there had been any meaningful debate over the issue. One person said some members are keen for the council to consider raising the deposit rate, now at minus 0.4 per cent, before it ends its quantitative easing programme.
The ECB plans to keep on buying bonds until the end of this year, and is considered likely to extend the programme into 2018 — though at a slower pace than the current level of €60bn a month.
Against the pound, the euro was up 1 per cent at €1.1393 – a level last seen in mid-January. The currency also firmed more than 1 per cent against the Japanese yen at 122.83.
Providing some much needed details on her plans to redenominate the French currency, should she win the French presidential election in under two months, on Wednesday Marine le Pen told RTL radio should would introduce a new franc at a rate of one-to-one to the euro and then allow it to fluctuate, despite previously saying that any new national currency would continue to be pegged to a basket of currencies. She said the new French franc would likely fall “against whatever currency Germany uses”, making French car exports more competitive, but said it might rise against the currency in Italy, a country she said would also be better off without the euro.
Incidentally, many agree with Le Pen, and according to Paddy Power, Italy now has even odds of leaving the EU before 2025, far higher than even perpetually depressed Greece.
In a report released this morning by the Organisation for Economic Cooperation and Development titled “Will risks derail the modest recovery? Financial vulnerabilities and policy risks” the OECD warns the global economy may not be strong enough to withstand risks from increased trade barriers, overblown stock markets or potential currency volatility, and adds that the “disconnect between financial markets and fundamentals, potential market volatility, financial vulnerabilities and policy uncertainties could derail the modest recovery.“
The OECD projects global GDP growth to pick up modestly to 3½ per cent in 2018, from just under 3% in 2016, boosted by fiscal initiatives in the major economies, a forecast which is broadly unchanged since November 2016 and notes that while confidence has improved, “consumption, investment, trade and productivity are far from strong, with growth slow by past norms and higher inequality.“
A Korean special prosecutor indicted Samsung chief Jay Y. Lee on bribery charges.
Korean press is reporting that China has told its travel agents to halt sales of holiday packages to South Korea.
Bulgaria’s interim government said it may apply to join the eurozone within a month.
South Africa’s main labor union Cosatu accepted a government-proposed minimum wage.
New Commerce Secretary Ross appears to be taking a less confrontational stance with regards to Nafta.
Press reports suggest Mexico may request a swap line from the Fed.
Peru’s central bank cut reserve requirements again.
In the EM equity space as measured by MSCI, Turkey (+1.5%), Czech Republic (+1.4%), and Mexico (+1.2%) have outperformed this week, while Colombia (-3.4%), Brazil (-2.1%), and UAE (-2.1%) have underperformed. To put this in better context, MSCI EM fell -1.4% this week while MSCI DM rose 0.3%.
In the EM local currency bond space, India (10-year yield -11 bp), Poland (-9 bp), and Indonesia (-3 bp) have outperformed this week, while Turkey (10-year yield +44 bp), Colombia (+18 bp), and Malaysia (+14 bp) have underperformed. To put this in better context, the 10-year UST yield rose 18bp to 2.50%.
In the EM FX space, MXN (+1.6% vs. USD), PLN (+0.4% vs. EUR), and ARS (+0.2% vs. USD) have outperformed this week, while COP (-3.1% vs. USD), TRY (-3.0% vs. USD), and KRW (-2.2% vs. USD) have underperformed.
A Korean special prosecutor indicted Samsung chief Jay Y. Lee on bribery charges. He is accused of exchanging bribes for government favors, which were uncovered during the investigation of President Park. Lee allegedly directed tens of millions of dollars to a confidante of President Park in return for government support of a 2015 merger that benefited his interests. These developments could fundamentally change the role of the chaebol in the Korean economy.
Korean press is reporting that China has told its travel agents to halt sales of holiday packages to South Korea. If confirmed, the move would likely be in retaliation for Korea agreeing to deploy a US missile defense system. Spokesman for China’s Foreign Ministry said he wasn’t aware of any such measures while an official at the Korea Tourism Organization (KTO) said China has issued the ban. KTO estimates that nearly half of the foreign visitors to Korea last year were from China.
The price of a bitcoin has climbed above that of a troy ounce of gold for the first time on record after the cryptocurrency enjoyed a dramatic upswing in interest since last year.
Bitcoin has jumped by nearly 33 per cent this year to trade at $1,265 on Thursday amid a surge in interest in China, where the authorities fret the digital currency is being used to facilitate capital flight from the country. Bitcoin has risen nearly 200 per cent over the past 12 months, despite efforts to curb its use in China.
Of course, comparing gold to bitcoin is arbitrary, given that the precious metal is measured in weight – a troy ounce of gold (about 31 grams) cost $1,233 on Thursday – while the virtual currency beloved of technologists is entirely ephemeral and abstract. But the cross is nonetheless symbolic of its unexpected staying power and influence in certain circles.
Although most of the interest has shifted towards the potential wider usages of blockchain – the electronic ledger that underpins bitcoin – the Securities and Exchange Commission is currently considering a proposal for an exchange-traded fund backed by bitcoin.
SEC officials on February 14 met with Tyler and Cameron Winklevoss – the bitcoin ETF’s champions – to discuss the proposal and a decision is due by March 11, according to Bloomberg.
The digital currency came close to the headline gold price in late 2013, when it spiked above $1,000 per dollar for the first time, but then quickly halved in value in 2014, traded sideways for much of 2015 before embarking on a sharp rally in the middle of last year.
The dollar hit its highest level in more than six weeks on Wednesday morning, amid a sharp increase in bets that the US Federal Reserve will raise interest rates this month.
The dollar index hit 101.78 on Wednesday morning, its strongest level since January 12th and a 0.3 per cent rise on the day, following hawkish comments from an influential member of the Federal Reserve’s policy-setting board.
The probability that rates will rise when the Federal Reserve meets this month shot up from 50 per cent to 80 per cent yesterday after William Dudley, head of the New York Federal Reserve, said that the prospects for adding to the December 2016 rate increase had become “a lot more compelling”.
His comments helped the dollar to overcome a lacklustre reaction to President Donald Trump’s first speech to Congress last night, which outlined plans to ask for $1tn in infrastructure spending – which would be a boost to the US economy – but was lacking in detail some investors had hoped for.
The rise in the dollar sent the pound to its weakest level in more than three weeks at $1.2348. The US currency was up 0.7 per cent against the Japanese yen at Y113.5 while the euro fell 0.3 per cent to €1.0544.
Pemex, Mexico’s national oil company, slashed its 2016 net loss by nearly 60 per cent to 296bn ($14.3bn) pesos from 713bn pesos in 2015 amid cost-cutting, and Juan Pablo Newman, finance director, told a conference call “finances are stable, but can certainly be improved”.
In the fourth quarter, Pemex trimmed its net loss by 91 per cent to 32.2bn pesos from 360bn. It was its 17th straight loss, but as a sign of the improving trend, Mr Newman noted that with 2016 average production of 2.154m barrels per day, crude output beat the company’s target.
He said efforts to reduce costs and improve efficiency would “continue to bear fruit” and highlighted key associations, asset sales plus the sale this month of the biggest-ever emerging market eurobond as signs that Pemex is on the right track.
However, in 2016, a 65 per cent increase in foreign exchange losses underscored the uncertainty facing Mexico’s economy with Donald Trump’s pledges to rewrite the North American Free Trade Agreement, which has hammered the peso currency.
February has been cruel to the euro. Of the sixteen sessions this month, counting today, the euro has risen in four, and two of those were last week. Its new four-day slide pushed it below $1.05 for the first time in six weeks as European markets were opening. The $1.0560 area that was broken yesterday, and provided a cap today is 61.8% retracement objective of last month’s rally. Recall that the multi-year low was recorded at the start of the year a little below $1.04.
The main weight on the euro is presently not economic but political. Recent developments in France underscore our argument that the success of the populist-nationalist forces requires some sort of help from the mainstream parties. This was clearly the case in the US and UK, where no populist party was elected, but instead, the populist agenda co-opted by the center-right. The non-binding UK referendum turned into a binding decision with the smallest of majorities for such an important change. It has yet to be seen how President Trump relates with the Republican Party. However, it is strikingly different that what the Democrat leadership did in 1972. Then the left-wing of the Democrat Party succeeded in nominating McGovern, and the leadership of the party abandoned him, helping to produce a landslide victory for Nixon.
In any event, the left in France is finding it difficult to put down egos and the hubris of small programmatic differences to unite behind a single candidate. Macron appears to be doing a good jump of shooting himself in the foot, allowing Fillon, under a cloud of scandal, to recapture second place in the polls. In Italy, there is a risk that the largest political coalition in Italy, the PD, may split with the old guard and the left-wing possibly forming two new parties. This is seen working to the 5-Star Movement’s favor. The 5-Star Movement is underscoring another observation of populism-nationalism: it may work better as in opposition rather than as a governing party.