Going into 2017, the market consensus was one of a strong US dollar environment, with the expectation of the US engine firing on all cylinders, with support from fiscal policy, monetary policy and de-regulation. The engine has stuttered, the US dollar has been declining all year and not many US dollar bulls are left. We are taking stock.
Since Trump's election in November, financial markets have focused on the reflation trade. Inflation expectations and bond yields have risen, as have equities and commodities. Although the US dollar has strengthened by a little over 3% on a trade-weighted basis, this masks the individual currency winners and losers.
Can investors exploit "value" and "interest" signals to guide their foreign currency allocation? The answer to both looks like a decisive yes. These concepts can be used to help guide currency investments. In the wake of the post-Brexit vote sterling slump, they caution us to be nervous about the strong dollar hype.
Global bond yields are on the rise, but the reasons why vary by region. So the question is, how high could yields go? And which countries could be 'the good, the bad and the ugly'?
The GBPUSD real exchange rate is now 25% below the average of the last two hundred years. It has become increasingly common for currency strategists to talk about GBPUSD trading at parity (i.e. another 20% below current levels). At that point, the pound would be even weaker than just before the Battle of Waterloo.
Directors from 8/12 Federal Reserve districts are now pushing for an increase in the discount rate. That includes the four regions whose presidents are full voting members of the FOMC for 2016 . The market is still only priced for a 50% chance of a rate hike by December, but the clamour from within the Federal Reserve system is now notably louder than at the same stage last year.