Donald Trump has delivered his first address to Congress, but the market reaction has been fairly small so far. Although Trump received rapturous applause from a very proud Republican Congress, the market reaction was muted, as fiscal details were fairly thin on the ground.
The takeaways:
The key takeaways from the speech included: a $1 trillion investment infrastructure plan, he reiterated his desire for a very large tax cut, and a boost to defence spending. Trump failed to offer any details on how this will all be funded, these details will have to be hashed out by Congress in the coming months. Considering there are some key fiscal hawks in Congress, there is no guarantee that Trump will be able to deliver on his fiscal promises during his term in office. If the markets focus on this then it is hard to see how the equity market rally can be sustained.
Mexican peso: the big winner from Trump’s speech
The winner from this evening appears to be the Mexican peso, which is the strongest currency versus the dollar so far on Wednesday. Although Trump said that he will build a “great, great wall” along the US’s southern border, he didn’t explicitly say that Mexico should pay for it, hence the sigh of relief in the peso.
Buck holds onto gains during Trump speech
The dollar gave back some of Tuesday’s gains on the back of Trump’s speech, but in fairness, the buck didn’t fall off a cliff, and has actually picked up off the lows since Trump has stopped talking. The key driver of the dollar, however, which is up some 0.75% since Monday’s low, is the growing prospect of a Fed rate hike later this month, the Fed Funds Futures market is now pricing in a 52% chance of a rate hike for March. A relatively hawkish speech from the Fed’s Dudley on Tuesday helped to drive US 10-year treasury yields some 10 basis points higher, which should be supportive of the buck in the coming days.
From an FX perspective, USD/JPY is worth watching, due to its sensitivity to risk sentiment. This pair has had a sharp recovery after a wobble on Tuesday, and is currently close to the highs reached during Dudley’s speech late on Tuesday.
How will equities react?
The recovery in the USD/JPY suggests that risk sentiment will remain supported on Wednesday. E-mini futures are also pointing to a higher open for US stocks, although they have given back some gains in the immediate aftermath of Trump’s speech. Perhaps stock markets will be pleased with signs that Trump will push for Congress to pass an infrastructure fund worth $1 trillion, when there was some prior concern that this could be pushed out to 2018. However, this doesn’t seem like something that could sustain another leg higher in markets, and instead the rally could hinge on how the markets react to the prospect of a rate hike from the Fed in two weeks’ time. In the short-term, if tomorrow's Snap IPO goes well, this could also help sustain market sentiment.
Trump bashes pharma sector once again
Watch the pharma sector. President Trump reiterated that he would help to drive down the cost of drugs, which could knock the S&P 500’s healthcare sector back from its highest level since mid-2016. The lack of detail on financial regulation could also curb some enthusiasm for US banks. The President did not mention Dodd-Frank by name; a regulation that the financial sector had hoped would be scrapped by this administration. To cushion the blow, however, is the prospect of a Fed rate hike this month, so any decline in US banks on Wednesday could be used as a buying opportunity.
Overall, this speech gives political commentators lots to discuss, but it was short on detail for financial analysts. The baton is now passed to the Federal Reserve, as expectations are building for a rate hike in March. This hasn’t knocked risk sentiment so far, but if Janet Yellen, who is speaking at the end of this week, adds more fuel to the March rate hike fire, then we could see equities struggle under the burden of higher interest rate expectations.
So, we turn to the Fed to give us the next set of directions for this market rally.
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