Morning Brief – Thursday 20th

Tango Time

 

 

Alright it’s not September yet, Strictly’s not back on TV and our tango won’t star one sequin clad pro and an overweight celebrity Ed Balls with far too much enthusiasm to be healthy (sorry Ed). But the composition of the showdown between the two potential next leaders of the Conservative Party and future Prime Minister will be decided today. The bookies’ second favourite crashed out of the race yesterday with Rory Stewart taking to Twitter to thank the process for restoring his faith in Politics with regret only over the lack of support from his own Party.

 

The heavy-weight showdown will take place to choose who will (presumably) join Boris Johnston in a member level Conservative Party vote to decide the winner: Jeremy Hunt; Michael Gove; or Sajid Javid. Admonitions from Chancellor Hammond today will implore the eventual winner to consider unifying the British electorate behind the new leader with a vote. Suggesting a general election or a second referendum, the successful Chancellor will claim today the public’s voice is something that can solve the Brexit impasse. Of course, this strategy worked so well for the Prime Minister of his Chancellorship who I’m sure you will remember assumed power firstly from Cameron’s resignation and Party vote… Perhaps stick to the spreadsheets for now Phil!

 

Jeremy Hunt embodies the least hard commitment to Brexit amongst the contenders and is willing to forego an exit upon the incumbent legal deadline of Halloween this year. Markets are more likely to reward his right to tango with Johnston for the title with Sterling strength as investors would move to price a softer Brexit back into their positioning. Despite this possibility, the dwarfing leadership of Johnston in this race will undermine Sterling’s progress.

 

To keep Thursdays interesting, the Bank of England will also offer up their latest policy decision with a unanimous result in favour of maintaining the domestic interest rate at 0.75%. Yesterday’s inflation reading of 2% undermines the Bank’s ability to raise rates. With two post-Brexit hikes to date, the Committee is also right to be cautious with an already fragile economy. Mark Carney’s Bank’s tone should look far more hawkish than the Fed who last night signalled a path towards interest rate cuts. The markets continue to believe the guidance of the BoE loosely, not pricing in aggressive cuts in the near end of the curve but still only consider that rates might rise at the end of 2020.

 

The Fed has pushed the US dollar lower overnight by around 50 basis points to the moderate gratitude of equity markets. The move has been discussed for weeks if not months and (bond) market participants have put their money where their mouth is by pricing in cuts through 2019 to the Fed funds rate. US stock markets breathed a sigh of relief that the central banking authority was listening to their distress calls. The Fed removed references to patience in awaiting economic data to determine the path of US monetary policy, generating the expectation that the Reserve is ready to move towards lower rates at its next policy meeting. The Reserve’s Chairman Jay Powell in the subsequent press conference also explained that the case for monetary easing had grown more significant and the Fed’s dot plot showed significant members expecting a rate cut this year and the median rate forecast for 2020 at 2.1% versus its previous 2.6%. This is a strong signal that the tide could be turning on an eight-year long US Dollar rally. Of course, such comments couldn’t possibly be compared to ECB President Mario Draghi’s words that led to the Euro being labelled a manipulated currency by President Trump this week could they?! Somehow, I suspect I’m not the first to point out Trump’s hypocrisy (or the last!).

 

One warning – The Taylor Rule. Trump’s choices for Fed chair person were down to John Taylor and Jay Powell. The former and unsuccessful candidate famously published in 1993 an equation to forecast appropriate interest rates based upon a number of economic factors. It’s become common place in economics and achieved a lofty status. The rule right now predicts that in the United States interest rates should still be knocking on the door of 4%; far above the Fed’s positioning today. If short-run economic data picks back up then markets and the Fed might be forced to turn around and confess they had a momentary blip of madness and the tightening cycle could continue as it did last year. That would spell further Dollar strength as the reward for holding the greenback soared. A reminder then not to ignore central banks that this week are back in centre stage. 

 

 

 

Discussion and Analysis by Charles Porter

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