Morning Commentary: The Paradox of Markets

Foreign Exchange - Morning Commentary

The Paradox of Markets

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Alan Rose
Alan Rose
Foreign Exchange Senior Trader
July marks the longest U.S. economic expansion in history at 121 months. At this point in time, while some economic slowdown is anticipated, there are no visible signs of a recession. Over the weekend, markets got a boost from the G20 meeting where the U.S. and China agreed to a trade truce and to continue to work out their differences. Despite the upbeat nature of these two events, the glimmer is already fading as U.S. and G7 interest rates continue to plummet to new yearly lows.
Markets are always looking forward. Investors remain concerned that future growth will continue to weaken prompting a potential new wave of central bank monetary policy activism. German 10-year Bund yields have made new all-time lows at -0.40% today, and U.S. 10-year yields are testing levels not seen since 2016 when the Fed was at the very early stages of tightening. Markets are pricing in three Fed rate cuts over the next nine months. A number of events over the past 24 hours have changed the interest rate market dynamics:
  • The EU seems to be prepared to nominate a candidate (Christine Lagarde) to replace ECB President Mario Draghi; Lagarde is seen as a pragmatist but will also most likely err on the side of remaining strongly in the dovish camp. 
  • President Trump is nominating two new people to the Federal Reserve that also have strong dovish biases. 
  • The U.S. continues to threaten the use of tariffs against the EU with the threat of equally strong retaliation against U.S. exports. 
  • President Trump imposed tariffs of more than 400% on steel imports from Vietnam yesterday. 
  • Today’s ADP Employment report (see below) was disappointing for the second straight month potentially signaling a slowdown in hiring.
While all these factors will probably continue to provide ongoing support for equities, other asset classes will reflect more realism about the state of the global economy. The U.S. dollar (DXY) continues to vacillate back and forth reflecting all these short term factors and remains largely unchanged. We remain biased toward a slightly weaker U.S. dollar toward year end.
  • The Swedish central bank (Riksbank) kept interest rates unchanged at -0.25% as expected. The tone and language of their commentary was a bit more hawkish than anticipated as the market continues to price another rate increase near year end. The Swedish krona is outperforming today in a quiet market.
  • The U.S. ADP private sector employment report for June was disappointing again. Market expectations were for a gain of 140,000, but the number came in at 102,000 with a small upward revision to May. Back to back months of disappointing data reflect the fact that businesses are becoming more cautious about hiring.
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