Wednesday, April 29, 2020

Could the US’ Q1 GDP be better-than-expected amid a global lockdown?

  • Dollar
  • Federal Reserve
  • DXY


Analysts’ Pick: Could the US’ Q1 GDP be better-than-expected amid a global lockdown?

  • We expect Q1 GDP to decline, but fall slightly less than expected as a result of inability to fully account for the full impact on the economy at the end of March
  • The Fed is unlikely to decide on additional stimulus, although Fed Chair Jerome Powell will likely seek to appease financial markets amid high volatility during the period
  • Our outlook for the dollar is skewed towards the downside in the short-term as investors shift toward riskier positions as Covid-19 restrictions are eased

The first estimate for Q1 GDP in the US will be released today, just before the Fed's monetary policy decision. While it will be trailing data, it will give financial markets a gauge on what to expect in terms of future impact. With most of the economic impact centred around the end of Q1, the US' advance report for GDP will likely not be able to accurately account for the full impact of the virus. Hence, we expect the dollar to be more volatile at tonight's release of the data set.

While economists are forecasting a median decline of 4%, it may be closer to -3.5%. The reason the initial estimate for Q1's GDP may be tilted slightly to the upside is that it might not fully reflect the impact of lockdowns across multiple states in the US. But with the record government spending only kicking in from April and possibly at the end of March, a significant amount of upside potential is unlikely. ISM's PMI also suggests that contraction in business investments will only contribute to more downside for the US economy.

Inflated supplier deliveries and inventories resulting from a global supply chain disruption is overstating PMI figures


With regards to more forward-looking estimates, a v-shaped recovery for the US is probably unlikely at this point even as lockdowns start to ease. This will mainly be due to the record levels of unemployment which will drag on consumer spending, consequently delaying an economic recovery if the situation drags on. Instead it is more likely to be a incremental recovery, likely following a similar trajectory to plans for easing lockdown in phases. Consumer sentiment also reinforces this assumption, as April's consumer confidence index by the US Conference Board had some support from consumer's more optimistic expectations for the US economy six months into the future.

March and April’s record high unemployment will more than likely weigh on consumer spending


We don't expect the Fed to make any additions to the current stimulus measures as data for March and April start to be released for the US. What we think is more likely is for the central bank officials to discuss the economic outlook for the US as well as debt market conditions. There should be some discussion and evaluation of the current measures but we think major tweaks are unlikely at this stage.

The Fed’s balance sheets spiked in March and April but there may still be room for additional measures


In addition, a rate cut is highly unlikely with Fed Chair Jerome Powell already signalling that negative interest rates aren’t on the table. The financial market knows and expects this well, with Fed Fund futures tracking the decision implying a rate hike with a probability of only 8.3%.

Fed Fund futures imply that the market doesn't expect changes to interest rates for the rest of the year


Later during the Powell's press conference following the meeting, he is likely to reiterate that the central bank has room to do more and will do so if needed, which would signal that the central bank's balance sheet has excess space to introduce new measures should there be a second wave of new cases of the Covid-19 virus in the US. This also implies that the Fed no longer expects a sharp recovery in the US economy, but rather a slow and incremental recovery cycle as states start to ease lockdowns and workers start to return to work.

Earlier comments from other Fed officials also supports this, as expectations for the US' economy for Q2 2020 is expected to experience a sharp decline. Major hard-hit states like New York and New Jersey have already signalled that any easing of its respective restrictions are still weeks away, implying that the US economy will probably continue to suffer in the near term. As a result, the greenback should not show major movements on the Fed's decision, unless the central bank surprises the market with an unexpected move.

Another dynamic for the greenback will also be corporate earnings performances, which may put some pressure on investors as most estimates are unlikely to be met. Companies during this period are also likely to give pessimistic outlooks or pull their forecasts for the year to manage investor expectations. If so, then expect the dollar to experience some volatility as well, since a volley of worse-than-expected company outlooks are likely to put upward pressure on the dollar as investors rush to cash to mitigate some risk in the market.

Analysts’ are estimating a large drop off in earnings for S&P500 members in Q2 2020


The Dollar Index looks likely to continue its downtrend as a result, with most volatility for the day expected at 8.30pm (GMT +8) and 2am (GMT +8) tomorrow. If Q1's GDP comes in slightly-better-than-expected, then the dollar is likely to continue to fall, likely break the support at 99.51 and fall towards 99.39. This would give the dollar a downside potential of approximately 0.23%. If the Fed's outlook for the rest of 2020 is skewed towards a sharp recovery, then the dollar should continue to fall as risk aversion fades even more. The Dollar Index may as a result reach 99.18's level, which would be a total downside potential of approximately 0.44%.

Technical Analysis:         


The Dollar Index may be on a downward cycle as bears pull the index lower to retest the initial support level of 99.51. We think fundamentals are on the bears’ side and they are likely to break the support level and try to bring DXY back below into the 23.6% Fibonacci retracement. Bulls are losing momentum as risk-on sentiment returns to the market as countries across the globe start to signal their plans to ease Covid-19 restrictions. MACD supports the downtrend momentum of the Dollar Index as well, signalling that there is more room for the dollar to fall before a possible uptrend cycle. If this is the case, then the bears may get some more momentum today with possible volatility arising from the release of the US’ Q1 GDP and the Fed’s monetary policy meeting. We expect the bears to be able to break the 99.51 resistance level as well as the 23.6% Fibonacci retracement level at 99.39 and pull DXY lower towards 99.18 as a result.

Support: 99.51 / 99.18 / 98.80

Resistance: 100.00 / 100.29 / 100.84

DXY Chart (H4)