As the US election approaches in November, the theme of trading will gradually shift to the election.
Author: Chen Min
Market changes are always unexpected and confusing.
Just like you who are cautious, questioning, and confused, you just believed the Fed’s explanation of “why it has to cut rates by 50bps”, and now you have to turn around and understand “why it cannot cut rates by 50bps”.
The Federal Reserve’s words are really deceptive.
It seemed as if overnight, the tone of the Federal Reserve's speeches all changed to "cautious", "balanced" and "data-dependent".
New York Fed President Williams: Two more 25 basis point rate cuts this year is a very good base case scenario.
Atlanta Fed President Bostic: The Federal Reserve must balance a variety of competing risks as it considers how fast to continue cutting interest rates in the coming months.
Boston Fed President Collins: Policymakers should take a cautious, data-dependent approach in lowering interest rates to help maintain the strong momentum of the U.S. economy.
Federal Reserve Vice Chairman Jefferson: The risks facing the Fed's employment and inflation goals are currently almost equal.
Federal Reserve Board Governor Kugler: The Fed should continue to work to lower inflation to its 2% target, but take a "balanced approach" to avoid an "undesirable slowdown" in job growth and economic expansion.
I believe the following are the reasons for this change:
First, the previous non-farm data did exceed market expectations. In September, non-farm employment increased by 254,000, the largest monthly increase in six months, and an increase of 69.3% over the expected increase of 150,000.
Second, the election is approaching and heating up, and the two candidates are very close in the polls. Any action by the Fed may be interpreted as "election support." The Fed tends to remain "sound" and "cautious" before the election.
Third, the recent trend of the Israeli-Palestinian conflict has intensified. If the situation worsens, there is a possibility of a chain reaction such as soaring oil prices, rebounding prices, and rising inflation. The Fed has to consider this variable.
Fourth, after the first interest rate cut, the attractiveness of emerging market assets represented by A-shares and Hong Kong stocks increased sharply, exacerbating the pressure of capital outflow from the US dollar and increasing the Fed’s motivation to slow down its actions before the election.
The market's pricing of the Federal Reserve's interest rate cut expectations this year has now returned to the range of once in November and once in December.
Figure 1: Expectations of Fed rate cuts
As expectations of a rate cut were adjusted, the US dollar index took a "V"-shaped path in early October. This was due to factors related to the US dollar itself, as well as the weakness of several major currencies such as the euro and the yen.
Figure 2: V-shaped reversal of the US dollar index
1. Regarding the euro, the ECB continues to maintain a dovish attitude.
After the German central bank president approved the October rate cut, French central bank governor Villeroy said the European Central Bank is likely to cut interest rates next week and will ease monetary policy again at future meetings. The euro's trend is also basically synchronized with the interest rate differential between Europe and the United States, reflecting the direct impact of interest rate pricing on exchange rates.
2. As for the yen, the risk of the new prime minister being "hawkish" is gradually being alleviated.
At his first press conference, the new Japanese Prime Minister Shigeru Ishiba sent a "dovish" signal to the market that he would continue the monetary policy, which has become an important factor in the recent weakening of the yen. Maeda, a former director of the Bank of Japan, predicts that the most likely time for the next interest rate hike by the Bank of Japan is January next year, which is significantly later than the previous expectation of the end of the year.
3. Benefiting from the attractiveness of RMB assets, the RMB, despite its weakening, is still one of the stronger currencies among many currencies.
Figure 3 CFETS RMB Index
Regarding the future market, the author believes that as the US election in November approaches, the theme of trading will gradually shift to the election.
According to the latest polls, Trump's national support has regained its lead over Harris and he has maintained his lead in several swing states.
If the "Trump deal" dominates, the US dollar may perform relatively strongly.
Figure 4 Trump and Harris's poll results across the U.S. and in swing states
But from a medium- to long-term perspective, I remain optimistic about non-US currencies.
First, RMB assets have maintained a high level of attractiveness recently. Despite some pullbacks, the market still has expectations for policies.
Market transactions may gradually move forward along the trading ideas of policy sentiment, policy implementation, and policy effects.
Second, my judgment is that the pace of interest rate cuts by the US dollar will slow down, but will not stop. As the interest rate advantage of the US dollar narrows, the pace of capital outflow to emerging markets will only accelerate.
I am still optimistic about China in the future.
