December is near, as is the holiday slowdown that ensues, but yearend tax planning, another potential rate hike from the Fed, and impending tariffs leave many things in doubt, as to how our major pairings will adjust before 2018 closes. The outlook narrative for 2019 is already forming, based upon a U.S. economic slowdown occurring during the year, while other developed economies pick up the slack. It is easy to look far forward, when there can be no current consequences for bad guesswork, but financial markets are already a bit edgy, when everyone thought that there would be a boost after mid-term U.S. elections. The Almighty Dollar has remained Almighty – perish the thought.
Banking forex experts expected a slight depreciation to take place over the final quarter of the year, but nothing of the kind has shaped up across the globe. The analysts are muttering to themselves and their respective managements at the moment, as they revise their all-important guesses for final pairing forecasts for 2018. If they stick to their guns, which these guys are prone to do, the USD Index would have to fall precipitously in December. The index presently rests at 96.8. If the bankers are right, then current trends would need to reverse to the tune of 3.2%, an unlikely event, based on this chart:
The greenback would need to take a beating to bring it down to the levels last seen in September. It could happen, if the Fed gets cold feet and postpones its planned interest rate hike, something stock analysts have been pushing for over the last month or so. The benchmark rate after the September meeting was set at 2.25%. The probability that it will jump another 25 basis points in December, based on prices in the futures market, is currently about 75%. That figure had been higher a month ago. It has slid a bit.
Is there another developed economy prepared to take the “baton” from the United States and then run with it? Unfortunately, the rest of the world seems to be stalling. The prevailing narrative postulates that the long-dollar trade is saturated. Even a light touch to the “sponge” will send capital flowing to other safer havens, but no touch seems to be the issue. Tariff wars could subside if Trump and Xi agree to a “ceasefire” and delay the January 1st imposition of the next round of tariff salvos.
There are a few analysts out there that are advising their clients to close their long-dollar positions, based on the latest economic data on the housing industry. A well-respected housing index fell to the “60” mark, when “68” was the expectation. Rising interest rates are dubbed the culprit. At the same time, Jerome Powell, our Fed chairman, began making dovish comments in public, as if he were telegraphing a general pullback from the hawkish stance that had been developing. Per one report: “The chairman acknowledged that the US economy could face some headwinds going forward, including the slowing global growth/demand and the lagging effect of past rate hikes on the US economy.” Powell would not bring up these topics unless he had concerns.
The “slowing global growth/demand” is across the board. Europe is stagnating. Falling oil prices will keep inflation in check, but the local economy will continue to be mired in a host of issues, ranging from Italy to Brexit, which will keep the Euro and the Pound from moving out of their tight ranging bands. If you are a betting man, the Pound could be preparing for a major run. Only the direction is in doubt. In Asia, the Yen and the USD appear to be tied at the hip, while the Aussie is mired in negativity. The inability to overcome Emerging Market vulnerabilities and a Chinese slowdown that is perceived as getting worse are given as reasons why the Aussie might fall below $0.70.
What is the outlook for the Euro going forward?
As we have often said about the EU economy: “And then there is Europe, the proverbial “one step forward, two steps back” region of the global economy. As well as several members perform, you can always count on others to offset any progress made.” This “axiom”, if you will, seems to be playing out once again. The ECB reported a 0.2% gain in GDP for the region, but Germany, the engine that drives the entire union’s progress in many respects, contracted by the same 0.2%, a bad sign for future prospects. In his inimitable fashion, Mario Draghi “remained upbeat on the economy regardless of recent weaknesses.” He and the ECB plan to monitor the situation closely. Imagine that?
The reasons cited were global trade tensions and weakness in the automobile industry. On a positive note, inflation actually raised its head above the 2% target and came in at 2.2%. It may be a brief resting place, however, since oil prices declined for the seventh week in a row and will surely deflate this achievement. As can be discerned from the chart, the Euro hovered between 1.18 and 1.15 in October, then dropped these tight boundaries down to 1.15 and 1.12. The outlook going forward is more of the same, but sideways. The expectation is that the ECB would begin raising interest rates in mid-2019, but present weaknesses when extended may lead to a more “wait-and-see” attitude from Draghi and his merry band of bankers. Upside potential is slight.
What is the outlook for Pound Sterling going forward?
Can you say, “range bound”? The British Pound continues its slogging about between 1.27 and 1.32, a bit more volatile that the path of its brethren, the Euro. The Pound had peaked back in April at 1.44, but Brexit uncertainty has taken its toll over the intervening months. Will a deal get done? The general belief is that a some kind of deal will be approved, and, if so, the Pound could take off in a northerly direction. Sounds like a game plan. Even if the deal fails or Parliament actually pushes to revoke the entire process, the Pound should appreciate materially. The question then becomes when?
This “messy divorce”, as some have called it, keeps getting messier. Per one reporter: “The EU does not want to set any precedents in the final form of Brexit that will make it easier for other members to follow the UK out of the Union. Additionally, within the UK, several of the Prime Minister’s cabinet ministers resigned, and within Parliament, there is no widespread agreement about the deal is currently on the table.”
Uncertainty always breeds volatility in the foreign exchange market, and we can expect the Pound to bounce wildly back and forth, until the “big announcement” comes. The near-term direction could favor more declines: “The pound is currently reflecting more trouble on the horizon for the British and some analysts believe that if a deal does not get done soon, the pound will drift back down to the $1.20 level and perhaps a lower low depending upon what transpires over the coming weeks and months.”
The March 2019 deadline for a deal is quickly approaching, and, in the meantime, a challenge to Prime Minister May’s leadership position could arise. Critics concede that the most likely outcome is for May to retain power and for a deal to be consummated. When all is said and done, expect a rally, where everyone and their grandmother jump onboard the train. It will be a fun ride.
What is the outlook for the Japanese Yen going forward?
The Japanese Yen has always been a safe haven for capital flight. It has benefited, as has the USD, during the crisis in emerging market countries. High values for both currencies have a negative impact on commodity prices, but the “contest” between these two “safe haven” rivals has definitely favored the greenback over the past several months. Higher highs and higher lows, the definition of a positive trend, has been the storyline, as depicted in the above chart.
Can the pairing continue to favor the USD? Can it go higher? Macro models and non-banking analysts expect the Yen to end the year above the 114 level. The Fed is set to raise rates again in December, if a 75% probability means anything, and this move will provide the nudge to penetrate what has seemed to be massive resistance. What can reverse these obvious trends? At the upcoming G20 talks in Buenos Aires, Trump and Xi will commence trade discussions. A failure for the U.S. could propel the Yen forward.
What is the outlook for the Australian Dollar going forward?
To put it mildly, the Aussie has been slammed this year. It has made a recent recovery, but it may be short lived: “Australian dollar has bounced against the greenback in November, helped in part by solid Australian employment data, hopes for trade resolution between the US and China, some softening in US interest rate expectations and, given stretched short positioning that had built up to the highest levels in several years, short covering from some investors.”
Is the bounce real or just temporary? So much of Australia’s fate depends upon China, and because of that dependency, it is not good news that China continues to struggle with trade problems and structural reforms. Economists project that GDP growth in 2019 will decline from 6.6% to 6.3%. According to one analyst: “Chinese vendors are more focused than ever on overseas expansion in South Asia, Africa, and Central and Eastern Europe, to hedge against their [slowing] business at home. But the current international trade environment and geopolitical issues are not great for business either. Only a few are likely to survive the tough winter.”
As for the Aussie, JP Morgan forex experts are forecasting a near-term dip below $0.70. 2019 will be more of the same in reverse – a yearlong struggle to break through that $0.70 resistance. A weakening U.S. Dollar could help, but so goes China, so go the prospects for an appreciating Australian Dollar.
Is King Dollar trending north, range bound, or pre-set for an imminent reversal? There are many moving parts to this puzzle. Fed watchers are building a case that there will only be two rate hikes in 2019, not three as currently planned. Europe could be the big surprise of the coming year, if Brexit and Italy negotiations conclude on positive notes. The odds are even increasing for Parliament in the UK to reject any deal and then move for another “Yes/No” referendum vote by the people. When Pigs fly, as some say?