Those dollar bulls blinkered by the so-called Trumpflation trade and wondering if a pullback is justified get a reminder this week of the other main force behind the long-dollar consensus. Federal Reserve chair Janet Yellen and her colleagues are staging their first meeting of the year.
A Fed meeting, particularly one taking place at some point along the path of a rates cycle, would normally command considerable investor attention. Instead, Mr Trump has the market paying much more notice of what he and his administration might be about to say next.
“All my conversations with clients have been more focused on Trump than the Fed,” says Silvia Ardagna, Goldman Sachs senior economist and foreign exchange strategist. “That is because it’s a big unknown.”
For all the market energy generated by the US president’s promised tax cuts and fiscal stimulus, investors may end up showing a lot more faith in the Fed chair, as they anticipate further rate increases to follow the December rates rise.
Three trading periods of dollar momentum have been detectable in the past six months — a three-week period in October-November when the index that measures the dollar against its peers rose 3.9 per cent; an 11-day period after November 8’s election, when it climbed 4.3 per cent; and a week-long period around the Fed’s December meeting when it grew 2.9 per cent.
Another pre-Fed dollar pick-up appeared to be under way in recent days. The index had been rising 1.1 per cent from Thursday. That was until a rethink in Monday’s US trading session led to a sharp reversal, a decline that continued on Tuesday. The index is back below 100 to its lowest level since mid-December.
This week’s dollar declines may be to do with profit-taking, says Ms Ardagna, or caution from investors “wanting to learn more about the policy direction in the US”. She discounts the idea that investors have more “faith” or “trust” in the Fed than they have in the new president.
But trying to work out the cause of each of these shifts is a complicated business. “There are too many moving parts to the dollar — data, the Fed, the new fiscal regime and the global picture,” says John Wraith, UBS strategist.
The initial dollar rally in October-November predated Mr Trump’s election victory. There were signs of what Ms Ardagna calls “a global business cycle momentum” and a bottom in inflation. Alongside came the Trump fiscal policy boost and his conciliatory acceptance speech on November 9. And underpinning these factors were much more robust data.
Some of the foundations of the dollar rally now look shakier. First-quarter data are “not looking too clever”, says Mr Wraith, while Mr Trump is sounding a good deal less conciliatory.
Meanwhile, the new administration’s views on dollar strength are evolving, the latest soundings coming from the president’s trade adviser Peter Navarro, who complained about a “grossly undervalued” euro. The dollar promptly fell nearly 1 per cent against the single currency.
But the reason the dollar is strong, argues Marc Chandler of Brown Brothers Harriman, is not because of the desire of other countries to weaken their currencies. “The divergence of monetary policy, broadly understood, has been, arguably, the single biggest force lifting the US dollar,” he says.
So is the divergence train still on track? Investors will look for clues from the Fed this week, although the biggest may come from the first payrolls data of the year, on Friday.
Mr Wraith warns that it is not the only central bank trying to come to terms with fast-moving events.
“It’s about how does central bank thinking evolve in light of a rapidly changing situation, which is to do with big shifts in fiscal policy in the US, Brexit in the UK and uncertainties in the eurozone about how the economy will respond if the European Central Bank starts to taper more aggressively,” Mr Wraith says.
In the past, he adds, such tumult would have prompted the Fed to err on the side of waiting. “The problem now is wait and see might be wise in the context, but inflation is rising rapidly,” Mr Wraith says.
Even so, no one would blame the Fed for holding fire, like investors, until further evidence of Trump policy emerges. It may feel like a lot has happened since the inauguration, but these are still early days.
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