Sovereign International Weekly Market Report
Dollar soars after Trump sweep
Market uncertainty over the US election was resolved in the most clear cut way imaginable, as the Republicans swept not only the presidential contest but also the House and the Senate.
Highlights:
While this resolution will bring about further uncertainty over the policies that will be pursued by the second Trump administration, the tail risk feared by markets (a contested election) is not going to be an issue. Risk assets seemed to celebrate the latter with soaring gains in most stock indexes, with the conspicuous exception of European ones. Interest rates rose across the curve on fears of Trump's inflationary instincts. The dollar rose sharply, but not as much as would have been expected, in a sign that markets had priced in a Trump advantage going into the election. As an aside, the results of the elections were a serious vindication of the accuracy of prediction markets relative to polls.
With the US election out of the way, macroeconomics and policy news again matters. However, its impact will be occasionally swamped by headlines about the incoming administration's policies, particularly as regards to tariffs, as it is not clear how much of Trump's campaign bluster will result in actual policy. Nevertheless, next week's inflation data out in the US (Wednesday) is key. Before that, the UK labour report will be closely watched, given the additional uncertainty over the pace of Bank of England cuts introduced by the loose Labour budget.
USD
We have spent so much time and effort analysing and predicting the US election that a return to normality will be welcome. We hope this started last Thursday with a mostly anodyne Federal Reserve meeting and press conference. Rates were lowered by 25 basis points, as expected, and Chair Powell offered little forward guidance, which is reasonable given the uncertainty over the incoming Trump administration policies.
The result of the election should mean a general upward repricing of policy rates, and this week's inflation report takes on added importance. An upward surprise even before Trump's inflationary policies start to be felt would not be welcome by bond markets, and would further support the narrative that Federal Reserve cuts in 2025 will likely be very gradual. In case you missed it, you can read our thoughts on the outcome of last week’s election, and its impact on the foreign exchange market, in our full US presidential election reaction report.
EUR
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The euro suffered the most of almost every major currency on the news of Trump's victory. The prospect of tariffs on the European Union’s biggest export markets comes at a delicate time for the Eurozone economy. While third-quarter GDP growth numbers came out better than expected, leading indicators such as the PMI surveys are suggesting that stagnation may be on the way for the fourth quarter.
Widening interest rate differentials also add to the pressure on the common currency, although at current levels there is a lot of bad news priced in the euro. EUR/USD has broken to fresh lows below the 1.07 level this morning, and we think that fresh downside could be on the way as markets continue to re-evaluate their expectations under Trump 2.0.
GBP
Sterling held up relatively well following the election victory for Donald Trump, and at one stage on Thursday had recovered almost all of its losses from the day previous. We see this as a result of the UK economy’s relative isolation from the rest of the world, particularly its lack of dependence on demand from China, which looks likely to bear the brunt of Trump’s tariff proposals.
The consequences of the looser than expected Autumn Budget continue to reverberate through markets, although it seems like gilts have stabilised for now after initially selling off sharply. The Bank of England delivered a rather hawkish assessment on Thursday. The base rate was cut by another 25 basis points in a 8-1 split vote, and it raised both of its inflation and near-term growth forecasts, explicitly citing the impact of the budget. Market participants have taken this to mean that additional cuts will be more gradual than had previously been expected, and swaps are subsequently only fully pricing in two additional rate reductions from the BoE in the next twelve months.
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