European stock markets are poised to open higher later this morning, after weaker retail sales in Germany virtually secures ECB largesse for the foreseeable future. The BOJ upgraded its economic forecasts, but did not suggest that it would tighten monetary policy anytime soon, which has given USD/JPY time to recover early on Tuesday. But US politics is still the main theme in town, and today we will watch to see if there is any fallout from Trump’s decision to fire the acting Attorney General overnight.
It’s been an interesting start to the week, with protests against President Trump’s immigration ban dominating market news and reaction. Trump’s use of executive power has not stopped with immigration; on Monday he signed a new order that will cap business regulation. While politics took centre stage at the start of the week, earnings from Apple (NASDAQ:AAPL) and Exxon (NYSE:XOM) later today, along with a flurry of central bank meetings this week will be critical for determining what matters more to markets right now: politics or economics.
Yet another executive order…
US stocks may have closed in the red on Monday; however, they managed to claw back some of their losses after a new executive order to cap business regulation. This new order is operating a one in, two out rule, and any new regulation will be subjected to higher levels of scrutiny going forward. Reducing red tape and regulation for business was another of Trump’s campaign promises, and it helped to ignite the stock market rally that saw the Dow Jones Industrial Average soar to 20,000 last week.
A week ago, this order could have triggered another leg higher in the equity market rally; however, on Monday the reaction was muted. Perhaps the pace of Trump’s executive orders has frightened some investors, who worry about the risk of policy mistakes from this rookie President (see my note from Monday, below). If so, then we may start to see the ‘Trump trade’ shift as a political risk premium limits further potential upside for US equity prices.
Trump trade not over yet
Surprisingly, volatility levels have remained relatively muted, the VIX index closed below 12 on Monday. This suggests that investors are not giving up on the “Trump trade” yet, and although recent political developments have caused concern, the bias remains for further stock market gains. But, it’s worth remembering that future political developments may disrupt stock market rallies, and investors could lose their nerve if the President remains trigger happy with his executive orders in the coming days and weeks.
Earnings key for equity market sentiment
Ahead today, there are some key earnings releases including Exxon Mobil and Apple. These are both bellwether companies for the US economy, and if they report strong earnings later today then we could see a resumption of the stock market rally from last week.
Could a dovish FOMC statement be on the cards?
Whether or not a potential rally can be sustained may depend on the Fed meeting on Wednesday. Although we don’t get a press conference, the statement will be closely watched for any signs that the Fed is looking to raise interest rates. It is worth noting that recent economic data misses, including the GDP report for Q4, and even signs of weaker than expected inflationary pressure - the annual PCE deflator for December rose to 1.6%, lower than the 1.7% expected - have caused the US economic surprise indicator to fall back from recent highs.
Thus, the bigger surprise from this week’s FOMC meeting could be an increasingly dovish tone to the Fed statement, as it tries to calm any nerves caused by recent political developments. If this proves to be the case, then the dollar could be at risk from a sharper sell off, and potentially the dollar index could drop below 100.00, while stocks could resume their rally.
The Fed, Trump’s next target?
At some point this year we believe that the Fed, if it continues to normalise monetary policy, could be on course for a clash with the Trump administration. If the Fed embarks on a hiking cycle, even a mild one, then the dollar is, on balance, likely to rise this year. In contrast, the US government wants an export, manufacturing driven economy, which would benefit from a weaker dollar.
While we don’t expect the President to comment on this week’s Fed meeting, if he does dare to criticise any future Fed decisions then financial stability could be at risk. Volatility could rise and we would expect to see stocks sell off, and safe havens like the yen, the Swiss franc and gold surge.
Below is my note from Monday, which may still be relevant for some of you.
Markets get to grip with Hardliner Trump
Financial markets have been given a rude awakening at the start of a new week as investors wake up to the fact that the ‘Trump trade’ is not a one-way bet. Ten days after Donald Trump’s inauguration, financial markets are weaker across the board after a global backlash against some of the political decisions made by the new leader of the US.
Trump-lite proves to be a mirage
President Trump’s first days in office, which have included a flurry of Presidential orders including a controversial, and ill thought out ban on immigrants from some predominantly Muslim countries, is a clear reminder that Trump is smashing up the political status quo and this will have ramifications for financial markets.
While some expected “Trump-lite” once he actually got the keys to the White House, his actions during his first days as President suggest that we need to get used to a hard-line administration over the next four years, one that will attempt to implement even the most radical of Trump’s campaign promises. Some of these, such as the recent immigration ban, could make the US a less attractive place to do business, which will be reflected in demand for US assets going forward.
Are equities pricing in a Trump premium?
Financial markets have reacted on Monday. Since the US markets have opened, volatility has risen to its highest level in a week, and US stocks have had one of their worst opens for months, the Dow Jones is down more than 1%, at the time of writing. Negative sentiment has also weighed on European indices.
BP (LON:BP) and Delta (NYSE:DAL) take a hit from Trump
Materials and industrial stocks are the worst performing sector on the Dow Jones today, it’s worth remembering that these stocks are closely linked to sentiment around Trump, and as his recent actions have prompted mass protest around the world, it is no wonder that they are faltering.
The financial and technology sectors are also weaker, after leaders of businesses within these sectors have spoken out about the potential negative effects that the Trump immigration ban could have on their employees, and on any potential business opportunities in the countries effected. For example, BP’s share price is down more than 1.5% so far today, as the Trump ban could impact its joint venture in Iraq.
Airline stocks are also coming under pressure. Delta is down more than 2% so far today, after President Trump tried to blame a technical glitch with Delta’s systems on the chaos his executive order was having on airports all over the US. This is another example of how a tweeter-in-chief can be a real risk for investors to be aware of.
Trump disrupts dollar rally
The rally in US bond yields at the end of last week, also reversed course on Monday, which limited upside for the dollar on Monday. Overall, President Trump is having an impact on markets, both to the upside and to the downside. However, it’s too early to say that the US is experiencing rising levels of political risk.
For example, even though the Vix index, Wall Street’s fear gauge, has risen on Monday, it is only at 12.69 (at the time of writing), which is well below the yearlong average at just under 15. If we see volatility rise above 15, then we may see a “Trump” risk premium start to weigh on US equities in the longer-term.
Earnings vs. Trump
The decline in equities is the key theme on Monday, the FX space is also exhibiting signs of risk aversion, USD/JPY is more than 1% lower so far at the start of this week. Looking ahead, there are plenty of meaty fundamentals for the markets to digest, including a flurry of top tier US corporate earnings releases and an FOMC meeting. We will have to see if this can steal the limelight from President Trump. This could be a key test for markets, if corporate results from the likes of Facebook (NASDAQ:FB) and Apple are good, can they overcome the political risks poised by this rooky President?
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