Thursday, November 5, 2020

The Fed may not add to the current political uncertainty, but expect a dovish tone on policy at its decision later

  • Dollar
  • Federal Reserve
  • DXY
  • Elections


Analysts’ Pick: The Fed may not add to the current political uncertainty, but expect a dovish tone on policy at its decision later

  • Fed will probably stand pat on policy but send dovish signals to the markets in view of the ongoing surge in Covid-19 cases across multiple states
  • Considerations for an expansion to asset purchases is likely, but an actual expansion may not materialise until December in our view due to little urgency and political uncertainty
  • Elections remain close, but the Senate looks more likely to belong to the Republicans. Investors seem to be pricing this in to the markets as well
  • The dollar looks likely to weaken on either a Trump or Biden victory, but the decline in the Dollar Index may be limited due to the sterling and euro’s weak economic outlook

Don't expect much from the Federal Reserve today as it is more likely to take a backseat to let politics play out while mostly reiterating its stance on the need for additional fiscal stimulus. Dovishness is expected, which should help fuel a dollar selloff in the short-term, as would politics as certainty returns to the market. The adoption of a dovish tone is due mainly to help alleviate pressure off of the economy from the surging number of daily Covid-19 cases in the US. We expect this to come in the form of the central bank making considerations to adjustments to asset purchases, although it should be noted that the market likely is not fully pricing this in.

Covid-19 cases in the US has been climbing higher, similar to that in the EU and UK


New Covid-19 cases is spiking in a concentrated area but may spill over to other states due to low restrictions on mobility


Asset purchases appear to be the most likely tool to be used in our view since central bankers in the US has mostly shunned the possibility for negative rates. Additionally, the Fed has not specified an end date to asset purchases as well, only that it will continue to make purchases at a pace of US$80 billion in Treasuries and US$40 billion in mortgage backed securities per month. This allows flexibility for the Fed to add to purchases, which the Fed could potentially use this week. But with political uncertainty still in the mix, it is reasonable to expect policy makers to delay a decision until December since most of the central bank's economic projections assume a fiscal stimulus by the end of 2020.

Also, economic data has mostly been in line with the Fed's economic expectations for a more slowing recovery in the US economy. This should help reduce urgency on policy makers for additional easing in the short-term. That being said, financial conditions are likely to be fragile now due to high volatility which should result in clearer remarks from both the official statement and Fed Chair Jerome Powell on the central bank's readiness to step in with additional easing if needed.

As for the elections, the presidential race still looks extremely close to be able to confidently declare a winner. Joe Biden needs another victory in two states in order to secure presidency. Keep in mind that this is assuming that the current projected wins hold, since these are still just projected numbers. Arizona may be a concern due to the convergence in votes, but it does appear unlikely to flip if the remaining votes sticks near to the current proportion of votes. Of the remaining states, Nevada in our view appears to be the most likely to result in a Biden win. The battle at both Georgia and Pennsylvania remain extremely close. We will be keeping a closer watch on Georgia since it is more likely to report the results earlier than others, and as we expect Biden to have a narrow chance at a win in Georgia, by a margin of less than 1%. Pennsylvania is likely to be closer than what the current results show as well, but a Biden victory there will likely be announced later and will be more reliant on mail-in ballots in our view.

Current forecast for Pennsylvania is for Trump to win with a 0.42% margin, meaning that Biden has a possible chance to victory if mail in ballots skew in his favour


We expect a higher chance of a Biden win in Nevada, with a projected margin of about 1.35% based on current standings in counties


The closest battle is in Georgia, where Biden has a narrow chance of winning by approximately a margin of 0.06%


That being said, the dollar looks likely to experience some downward pressure, possibly pushing the Dollar Index down past 93.00's level closer towards a support level at 92.53. This is due to certainty regarding the current situation despite the official election outcome still being unknown. Even with Republicans more likely to retain control of the Senate, fiscal stimulus will still probably eventually be passed. A smaller magnitude may be due, but a stimulus package nonetheless is more likely to weigh on the dollar. Additionally, the unwinding of traditional safe haven positions to flock into defensive sectors in equity markets was prominent yesterday as well with traders speculating that a Republican Senate will help mitigate risk to corporate earnings as a result of Democrats being unable to reverse Trump's tax cuts while he was in office. In the medium-term, we expect the Dollar Index to mostly be range bound despite weakness in the greenback, mostly due to the heavy weightage from the euro and sterling, both of which we expect to remain weak in the coming weeks as well.

Technical Analysis:


DXY continues to be range bound, trading within the 91.73 to 94.71 price zone as traders weigh between the strength of the dollar and other major currencies. The weak outlook for both the EU and UK is likely supporting the index from dipping further in our view, as dollar bears search for a new catalyst for a new low. Post-election certainty may be what the dollar needs to drop more, and we are seeing some of that scenario start to play out currently, likely as investors price in a better outlook for stock prices in the absence of a return towards higher tax rates. MACD signals a possible downtrend but its downside does appear to be limited. We expect to see the index trade closer towards 93.00’s level and possibly below that towards 92.53, although it is unlikely to break that support in the short-term.

Support: 92.53 / 92.17 / 91.73

Resistance: 93.39 / 93.88 / 94.71

DXY Chart (H4)