Who would have thought it – a new U.S president sounding ‘presidential’? Perhaps the most shocking thing in President Trump’s address to Congress was that there was nothing shocking at all. The optimism and calls for unity for a ‘new chapter in American greatness’ would surely have suited an inauguration speech far better. In any event, the speech is being seen as long on rhetoric and short on detail, which was expected by many in the market. Any specifics on major fiscal expansion plans were not revealed and there was no specific mention at all of the much-anticipated border adjustment tax. Of course, we were told the day before that there was to be no tax-plan introduction until a healthcare revamp has been worked out. The defense budget blowout was also proclaimed the day before as well.
The overriding emphasis on the familiar ‘America-first’ slogan, harking back to the election campaign undoubtedly plays well with the President’s key supporters. For the markets long-term, the implications of a president determined to renegotiate trade deals for the benefit of domestic businesses will be critical if there is to be a weakening of the greenback. Of course, any dollar strength will offset benefits of any import tariffs or other treaty gains to US companies.
What was of more significance to traders was Tuesday’s continued clear and consistent messages from Fed members regarding near-term interest rate hikes. Notably, the normally dovish NY Fed President Dudley said that the case for tightening has become ‘a lot more compelling in recent months’ and there is no need to wait for tax-reform details before tightening monetary policy. Similarly, San Francisco Fed President Williams said that a hike deserved ‘serious consideration’ in the March meeting where previously he had said it only ‘needed consideration’.
Along with hawkish messages from other Fed members, the market has now dramatically increased the chances of a March rate hike. From 34% this time last week, Bloomberg has Fed Fund futures pricing in an 82% probability of this happening, with nearly 1.5 hikes priced by June. The unwritten rule amongst traders is that the probability should be above 70% to make the Fed comfortable enough to hike as they want to have the move priced in before they increase rates.
The dollar has responded rising the most in six weeks. Having broken the descending channel back at the start of February, the greenback is now above last month’s highs when Yellen gave her semi-annual testimony. The next target will be the well watched 50-day moving average at 101.35.
Source: Bloomberg
Ultimately, the market will be on the hunt for more Fed speak from Yellen and Fischer on Friday endorsing what we have heard recently. If we do get monetary tightening in the near future, the key question will be how fiscal expansion (once and if it gets through the many potential hurdles) ties in with this and the president’s hope for a weaker dollar.