Monetary policy of key Central Banks will be a key
The second month of 2017 was relatively quiet. Market participants continued to follow the political statements and actions of the new US administration, trying to get more details about the prospects of Donald trump's economic policy. The monetary policy of the world's Central banks also remained in the spotlight. In addition, investors continued to watch the dynamics of oil and gold. In addition, the focus was on France due to uncertainty about the upcoming presidential elections.
At the beginning of the month, the US authorities increased tensions on world markets, saying that Japan, China and Germany are benefiting from the undervalued exchange rates of their currencies. Trump's trade adviser noted that Germany is using the highly undervalued Euro to exploit the US and EU partners. Meanwhile, trump said that Japan is deliberately lowering the yen to make its goods more competitive. Many investors regarded such statements as a sign that the US authorities may focus on the weakening of the dollar. Soon, trump stirred up Forex and other markets with comments on international issues, again. expressing concern about the North American free trade area deal and said he was ready to speed up negotiations on changing the agreement. He called the existing agreement a "disaster" for the United States and jobs in the country. Then trump turned his attention to domestic issues, signing Executive orders aimed at maintaining economic growth. One of the decrees concerned the Dodd-Frank act, which restricts access to US financial resources. Earlier, trump said that the Dodd-Frank law interferes with the activities of financial institutions, and it must be disposed of. The second document repealed Obama's Executive order on financial consulting.
In addition, the US President promised to review tax policy, saying that in the near future will be presented a "phenomenal tax plan". However, he did not announce any details. The official representative of the White house said that the tax plan will be comprehensive and will affect not only companies, but also individuals. Meanwhile, trump promised top managers of carriers to ease state regulation and modernize infrastructure, emphasizing that all these measures will help their companies hire more employees. Given such statements, investors sought to buy shares of US companies and sell government bonds in view of the prospects for tax cuts, reduced regulatory burden and profit growth. As a result, since the beginning of February, the main us stock indexes recorded an increase of 4.0% -4.9%.
Figure 1 Charts of the Dow Jones, NASDAQ and S&P 500 indices (source: bloomberg.com)
Returning to the Central Banks, it is worth noting that in February there were four meetings, namely the Federal reserve system (FRS), the Bank of England, the Reserve Bank of Australia (RBA), and the Reserve Bank of New Zealand (RBNZ). As expected, the fed leadership did not make any changes to monetary policy, maintaining the target range of the Federal funds rate in the range of 0.50% -0.75%. The fed said the labor market continues to strengthen, economic activity is accelerating at a moderate pace, consumer spending is rising, and business investment remains weak. In General, no new information was received from the fed, although many investors were hoping to get a signal about the plans for the next meeting. The comments of the head of the Federal reserve Yellen, contained in the semi-annual report on monetary policy, slightly clarified the future policy prospects. In her speech, Yellen noted that at one of the next meetings, it may be necessary to raise rates, although significant uncertainty related to trump's policy was also mentioned. In addition, Yellen stressed that the rate increase will be gradual, as the growth rate of US GDP is still moderate. She also acknowledged that the delay in raising the rate may create certain problems for the market. At the same time, Yellen did not say anything about the number of rate hikes this year, or whether it is planned to raise the rate in March.
Soon, other fed officials voiced their views on the prospects for monetary policy. Philadelphia fed President Harker signaled that at the March meeting, he will probably support raising rates if there are additional signs that inflation is gaining momentum. He also said that he considers it appropriate to raise interest rates three times in 2017 due to the improvement in the economic situation. Meanwhile, Federal reserve President Cleveland Mester said that if the current economic situation in the US persists, she will support a rate increase soon. In addition, the minutes of the last fed meeting, published last week, also signaled a "fairly early" possibility of raising rates due to the improvement in the economy. Some of the FOMC members reported a higher probability of raising rates if inflation rises sharply and the unemployment rate falls sharply. All these comments reinforced the opinion of market participants that the rate may be raised as early as next month. According to the futures market, now the probability of a fed rate hike at the March meeting is about 35%. At the same time, the strengthening of expectations about the fed's interest rate hike provided support to the us currency. Since the beginning of February, the US dollar index, which shows the ratio of the dollar to a basket of six major currencies, has increased by about 1.7%.
Rice.2 US dollar Index (source: finviz.com)
After that, the Bank of England held a meeting, the results of which also coincided with the forecasts. The key interest rate was kept at 0.25%. In addition, it was decided to suspend the purchase of government bonds, as it reached the target level of 435 billion pounds. The corporate bond purchase program will be implemented by the end of this year. The Central Bank said it expects higher rates of economic growth over the next few years than previously forecast. The Bank of England has improved its forecast for GDP growth for 2017 (to 2% from 1.4% expected in November) and for 2018 (to 1.6% from 1.5%). The forecast for GDP growth in 2019 was improved to 1.7% from 1.6%. Consumer inflation is forecast to rise to 2% in Q1 2017, rather than 1.8% as previously expected. At the same time, inflation will be at 2.7% in Q1 2018, which is slightly slower than the previous forecast of 2.8%. The Central Bank explained that the forecast for inflation was lowered partly due to the growth of the pound by 3% and the expectation of the markets to raise the interest rate. At the same time, representatives of the Central Bank signaled that they are not in a hurry to raise rates, since Brexit is a source of uncertainty for the British economy. At the same time, the minutes of the meeting confirmed the neutral position of the Central Bank - the management stated that monetary policy can react in any direction to changes in the economic Outlook. However, there are signs that the Central Bank is very slowly leaning towards some tightening of its position. Christine Forbes, a member of the Bank of England's leadership, said she may soon vote to raise rates to curb rising inflation. Forbes said that it is increasingly dissatisfied with the current position of the Central Bank and may soon try to achieve a change in rates, which were lowered in August. "From my point of view, if the real economy remains strong and the nominal data continues to improve, it is quite possible to talk about an increase in the Bank rate in the near future," Forbes said. If we talk about the dynamics of the pound, the current month the GBP/USD pair ends with a decrease of 1.1%.
Fig. 3 GBP / USD Currency pair (source: TeleTrade)
The meeting of the Reserve Bank of Australia also did not present any surprises. The Central Bank said that it decided to leave the discount rate at 1.5%. Meanwhile, the regulator confirmed its forecasts, noting that it expects economic growth to resume after an unexpected downturn in the third quarter, and inflation to accelerate this year. The RBA added that it is still optimistic about the prospects for the country's economy, and the head of the Central Bank, Philip Lowe, refuted the opinion that the country is threatened by a recession. "The Central Bank's main scenario still assumes that GDP growth will be about 3% over the next few years. Growth will be boosted by further increases in resource exports and by the fact that the period of declining investment in the extractive industry is coming to an end. Consumption growth is expected to accelerate compared to recent indicators, but will remain moderate, " Lowe said. As for the exchange rate of the Australian dollar, since the beginning of the month, the AUD/USD pair has risen by about 1.2%.
Fig. 4 AUD / USD Currency pair (source: TeleTrade)
The last meeting of the Central Bank of New Zealand was held. The regulator did not make any changes to the policy parameters, leaving the rate at 1.75%. However, the tone of the accompanying statement was softer than expected. In particular, it was said that rates will remain low for a long period of time, while inflation gradually returns to the target, and the new Zealand dollar is higher than necessary for balanced growth of the economy. The Central Bank said that it forecasts the interest rate at 1.8% in the 4th quarter of 2017 and 2018. In the 1st quarter of 2020, it should reach the level of 2.0%. At the same time, the head of the RBNZ Wheeler noted that the national economy is growing at a good pace, but there is still a strong uncertainty, in particular, regarding the international Outlook, and it may be necessary to make appropriate adjustments to monetary policy," he added. Summing up the results of the month on the foreign exchange market, it is worth noting that the NZD/USD pair fell by 1.5%.
As for the situation on the commodity market, in February, gold prices jumped by about 3.9%, reaching a 3.5-month high. The reason for this was political uncertainty in the US and a number of other countries, which increases the demand for safe haven assets. Investors were cautious in anticipation of trump's promised tax cuts and increased infrastructure spending. In addition, the upcoming elections in the Netherlands, France, Germany and Italy, where populist parties are gaining popularity, have increased concern. In part, expectations that the fed will not rush to raise rates contributed to the price increase.
Fig. 6 gold Graph (source:TeleTrade)
Oil quotes also showed an upward trend in February , with prices for WTI crude up about 2.4%, while Brent crude rose 1.3%.
Prices were supported by a high degree of compliance with the plan to reduce production by OPEC countries and optimistic comments from OPEC representatives about possible further production cuts. On the other hand, the market feared that the increased activity of shale oil producers in the United States would make it difficult to solve the problem of global oil supply glut.
Fig. 7 Chart of WTI crude oil (source:TeleTrade)
In March, investors will continue to monitor the monetary policy of major Central Banks, especially the fed. In the run-up to the fed meeting, which is scheduled for March 15, the sentiment of market participants, and thus the probability of a rate hike, may be affected by the February report on the number of jobs outside of US agriculture, which will be released on March 10. Recall that the data for January was mixed and overshadowed expectations of an increase in interest rates by the fed. Then the Ministry of labor reported an increase in the unemployment rate and a slowdown in the rate of increase in the average hourly wage. Investors will also be watching the situation in France, where one of the candidates, marine Le Pen, said that if elected to the presidential post, she will achieve France's exit from the EU within six months. According to opinion polls, Le Pen will win the first round of the presidential election, but in the second round, the chances of winning are more preferable for independent candidate Emmanuel Macron. Recall that the first round of presidential elections in France will be held on April 23, and the second is scheduled for may 7. In General, the first month of spring is expected to be more eventful than February.