Wednesday, November 13, 2019

Trade pact chatter unsettles the market; will inflation meet or beat expectations?

  • China
  • Dollar
  • Gold
  • Yen
  • Euro
  • Stocks

Market recap: All eyes on Fed chairman Jerome Powell’s speech today

US equities edged upwards on Tuesday, thanks to renewed optimism regarding the forthcoming partial trade deal between the US and China. US President Donald Trump declared on Tuesday that the two superpowers are close to signing a deal, but gave no further details. Gains in equity markets were curbed as a result, as investors were disappointed Trump didn’t reveal details on where and when the partial trade agreement would be signed. The DJIA remained flat while the S&P 500 and Nasdaq inched higher 0.16% and 0.26% respectively. The Dollar Index gained 0.11% on the news.

Safe haven assets rose slightly on Tuesday, as investors speculated whether the latest trade talks could in fact stall after Trump’s vague announcement. Gold inched higher by 0.03% to 1456.32 and the yen strengthened 0.04% against the greenback.

The Kiwi rose 1.23% to 0.6409 on Wednesday morning (as of 5.20am GMT +4), after the Reserve Bank of New Zealand surprised the market by deciding to leave interest rates unchanged at 1%. The market was expecting a 25bps cut the day before, suggesting a probability of 76.4%. US Treasuries yields fell slightly, with two-year, 10-year and 30-year yields retreating by 1bps each.

Stocks in Asia started Wednesday’s trading session lower, most likely due to investors fearing the US-China trade deal could stumble again. The Nikkei and Straits Times Index opened the day 0.34% and 0.27% lower respectively. The Hang Seng Index fell sharply before trading hours on Wednesday and started the day 1.12% lower as protests in the financial hub continued this week.

Markets will be focused on inflation rates from Germany, the UK and the US today. Also, Powell will be speaking to the Congressional Joint Economic Committee later tonight at 8pm (GMT +4).

Today’s analysis: Will the Dollar Index be influenced by Powell’s speech and US inflation?

October’s Consumer Price Index (CPI) for the US is set to be released later today at 5.30pm (GMT +4). Since it is one way the Fed uses to measure inflation, investors will likely use the data to gauge the likelihood of a future rate cut. Fed Fund futures currently suggest there’s a 19.5% probability that a 25bps rate cut for January will be priced into the market; a decrease from 24.2% a week ago and 35.6% a month ago.

Economists expect year-on-year inflation in the US to remain constant from September at 1.7%. With little change to the global outlook and the US economy from September to October, it is unlikely that inflation will deviate much for October as well. As uncertainty surrounding the US-China trade dispute still lingers, demand for goods in the US will probably remain little changed as well.

But with the Fed cutting rates three times this year (twice before October), there is a possibility that the CPI for October may increase due to prior monetary policy stimulus. Probabilities for a January rate cut should then fall if the CPI for October is better than expected.

On Tuesday, Trump challenged the Fed yet again in his speech to the Economic Club of New York. He implied that he wants negative interest rates to help boost the US economy, something the Fed will not do. Investors will likely be watching for any reaction by Powell at his speech to the Congressional Joint Economic Committee later tonight at 8pm (GMT +4).

If the CPI for October is worse than expected or if Powell surprises markets by adopting a dovish tone at his speech tonight, then the Dollar Index may possibly range between 98.05 and 98.21 as the US economy shows signs of a slowdown and as a future rate cut by the Fed looks more likely. But if October’s CPI is better than expected (or if Powell adopts the same hawkish tone as October’s monetary policy meeting), then the Dollar Index is likely to rise, possibly breaking past 98.45 to range between 98.45 and 98.73 as the market becomes more bullish over the US economy.

How could inflation affect the Fed's tone on the Dollar index

As the euro carries a heavy weightage in the Dollar Index (roughly 58%) , Trump’s decision on whether or not to delay tariffs on European cars and auto parts later this week is also likely to affect the Dollar Index. Also, any developments regarding the UK’s general election in December will likely affect the Dollar Index as well, since sterling carries roughly 12% weightage in the Dollar Index. As US and China come closer to signing a partial trade deal, any signs of the agreement stalling are likely to weigh on the Dollar Index as well.

Can the bulls maintain control over the Dollar index

The bulls are ahead of the bears as the Dollar Index trades above the 20-day, 100-day and 200-day moving averages. But we may possibly see more downward pressure from the bears as the 100-day and 200-day moving averages converge. If October’s CPI beats expectations or if Powell continues to adopt a hawkish tone, expect the upward trend to continue as traders become more bullish on the US economy. But if CPI falls short of expectations or Powell surprises the market with a dovish tone, then the bears will likely break the 98.21 support level and may also possibly break the second support level of 98.05.