In the rapidly shifting, post-US-election landscape, one consistent trend has emerged: dollar strength. As the chart below shows, the US dollar index has traded higher every single day since the Donald Trump's surprise victory in the US presidential election, reaching a its highest level since March 2003.
Source: Stockcharts.com
What's Next
Many traders have been able to capitalize on this trend over the last two weeks, but the most important question for investors is "where is the greenback headed next?" To answer that question, we have to look at the three interrelated factors that have driven the buck higher of late:
1) Expectations for an infrastructure spending boom under President Trump
As we noted in the immediate aftermath of the US election, President Elect Trump wasted no time outlining his goal of aggressive infrastructure spending. Many economists believe that fiscal stimulus (read: government spending and tax cuts) has been the "missing piece" in the global growth puzzle, and based on the initial market reaction, investors agree.
At this early stage though, there are more questions than answers about Trump's fiscal policy: How big would the hypothetical infrastructure spending package be? How far will taxes be cut? Will Republican deficit hawks in Congress agree to increase the deficit? Many of these answers will be fleshed out in the coming weeks and months, but there's at least a chance that the US dollar has gotten ahead of itself by pricing in the ideal scenario.
2) A more aggressive path of projected rate hikes from the Federal Reserve
Partially as a result of the expectations for a more stimulatory fiscal policy, investors now expect the Federal Reserve to raise interest rates more aggressively. Just yesterday, Fed Chair Yellen seemingly supported this notion, opining that a rate hike could come "relatively soon." For those not used to parsing Fedspeak, this is about as close to a green light as the notoriously milquetoast Yellen would ever give.
Before the election, markets were pricing in about a 65% chance of a rate hike in December; the market-implied probability has now spiked up above 90%! Indeed, the more important question heading into next month's meeting won't be "will the Fed raise interest rates?" but rather "How many rate hikes are likely in 2017?"This theme has the potential to propel the US dollar higher throughout 2017, but just like the optimism surrounding Trump's fiscal policy, we may not get any significant "news" on this front for the next couple weeks.
3) The rise of populist/nationalist sentiment shifting over to Europe
The final factor propelling the US dollar index is the notion that the anti-establishment sentiment that led to the UK's Brexit vote and Donald Trump's surprise ascension to the US presidency will strike Europe next. The euro represents the majority of the dollar index and European countries face a number of political hurdles in the coming months.
The next flashpoint to watch will be in Italy, where citizens will head to the polls in December 4th to decide whether to reform the country's constitution. Italy's PM, Matteo Renzi, has promised to step down if the referendum is rejected, and current opinion polls are leaning toward a "no" vote. Another loss for the global political establishment here would create more uncertainty for euro traders heading into 2017. It's worth noting that there is a blackout period for publishing opinion polls on the Italian referendum start this weekend, so traders will be in the dark for until the votes are counted in two weeks' time.
Summing up these three factors, there is certainly potential for the dollar to rally further in the coming months. However, investors likely won't get any "new information" on Trump's policies, the Fed's plans or sentiment in Europe for the next couple of weeks. Given that the dollar is well within overbought territory on a short-term basis and the US Thanksgiving holiday upcoming next week, we wouldn't be surprised to see the US dollar pull back over the latter half of the November before the longer-term bullish trend can reassert itself.
Needless to say, we'll be looking for opportunities to take advantage of any short-term dips in the dollar in the coming weeks.