Friday, January 3, 2020

Global stocks surge on first day of trading; will the Fed have a solution to the repo market?

  • China
  • Dollar
  • Gold
  • Yen
  • Stocks

Market recap: The US economy continues to look robust

US equities started 2020 surging to record highs as trade optimism and China's economic stimulus fueled investor sentiment. The People’s Bank of China (PBoC) cut the reserve requirement for banks in China for the eighth time since 2018 on Wednesday and signalled that it will continue to cut borrowing costs for businesses in 2020. Higher volumes in the US markets and possibly the reversal of window dressing strategies at funds with holdings in the US market likely also contributed to the spike in equities.

The greenback recovered on Wednesday after the number of unemployment benefit claims in the last week inched lower. Initial jobless claims fell by 2,000 to 222,000 for the week ended December 28th. But the four-week moving average of initial claims rose by 4,750 to 233,250, the highest since January 2018. The dollar still managed to gain against almost every major currency aside from the yen and loonie.

Demand for safe haven assets rose as investors hedged their risk against the record highs in the stock market. Gold, silver and yen all gained on Wednesday. US Treasuries gained as well, pulling yields lower on the day. Benchmark 10-year yields was 4bps lower at 1.88% on Wednesday.

Meanwhile in Asia, stocks fell on Friday after it was reported that an airstrike killed a top Iranian commander. The Pentagon announced on Friday that an airstrike had killed Iranian Major-General Qassem Suleimani, the head of the Islamic Revolutionary Guard Corps-Quds Force and Abu Mahdi Al Muhandis, deputy commander of Iran-backed militias known as the Popular Mobilisation Forces (PMF). After the announcement, major indices in Asia fell, wiping out gains from earlier in the day.

The euro and greenback will be affected by macro releases today and tomorrow. Germany’s labour market and inflation data for December will be released today at 12.55pm and 5pm (GMT +4) respectively. Also, traders will be looking out for the ISM Manufacturing PMI report at 7pm today as well as the Fed’s December monetary policy meeting minutes set for 11pm (GMT+ 4).

Today’s Analysis:Will the dollar continue to fall in 2020?

The dollar is likely to continue to fall in the short-to-medium term thanks to easing US-China trade tensions. US President Donald Trump sent out a tweet on the last day of 2019 saying that the US and China will be signing the US-China phase one trade agreement on January 15th. The announcement is likely to boost investor optimism and as a result put downward pressure on the greenback. Other drivers for the dollar will be this week’s Institute for Supply Management (ISM) manufacturing Purchasing Managers’ Index (PMI) and the Fed’s December monetary policy meeting minutes.

November's PMI report hints that December's manufacturing sector will likely continue to be in contraction. New Orders and Employment in the sector continued to contract at a higher pace and statements from the survey's respondents signal that customers are still cautious on the US-China trade war.

But the weaker dollar and easing US-China tensions should help exports in the sector. Although this effect will likely be balanced out by the holiday season and as businesses pull back on investments to wait until January for the US-China phase one agreement.

The Fed’s meeting minutes will likely highlight Fed officials' discussion on the repo market's liquidity issues. As the dot plot for December showed Fed officials mostly unified on the outlook of interest rate in 2020, Fed officials likely spent more time deliberating on the liquidity issues in the repo market instead. The meeting minutes will likely show that the Fed will continue to inject liquidity into the repo market as a short-term solution while considering other options such as a standing repo facility (which will allow certain banks to convert treasuries into reserves on demand at a specified rate) or a revision to banks’ reserve requirements.

The greenback will likely continue to face pressure this week thanks to expected dovish comments from the Fed on repo market operations and diminishing demand for the dollar as a hedge against trade risk. In addition, ISM manufacturing PMI is likely to come in close to expectations, i.e. below 50. DXY is likely to fall as a result, possibly past 96.44 to range between 96.00 and 96.44, a downside potential of roughly 0.33% to 0.79%. But risks of German inflation and employment data for December missing forecasts today could potentially put upside pressure on the Dollar Index.