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Talking Points:

  • The S&P 500 posted its largest single-day rally in months and the Dollar gapped lower post election results
  • As a market theme, the mid-term elections present limited medium-term command, but there is much more to stir deep currents
  • Top event event risk and themes to track ahead includes: the FOMC decision, Chinese trade data, Brexit talks and more

Following the sharp rally in Dow and other US indices along with the bearish gap for the US Dollar, how are retail FX and CFD traders positioning for the next move? See how these traders are positioned on the DailyFX Sentiment Page.

The Markets Exhale and Equities Rally

The oppression built up in weeks of anticipation for the US mid-term elections has finally passed like the breaking of a relentless hummidity. There had been plenty of analysis spent in evaluating how the mix of possible outcomes would ultimately influence the market and there has been just as much in the immediate aftermath. I remain of the mind that the genuine impact that this event holds for the markets is short-term and quickly drowned out by more financially-potent concerns that are notably unresolved. That said, there was a remarkable amount of volatility from key assets this past session, that has been used as evidence that there is consequence to the outcome of the vote. US equities clearly extended an impressive recovery from October's collapse. The S&P 500 this past session notched its fifth largest bullish gap on the open as well as the largest single-day rally in 7 months. The move has also pushed the benchmark index back above its 200-day moving average and placed the 100-day measure as immediate resistance. As for the Dollar, the response was bearish with an unusually large gap down (the largest since April 24, 2017) but significantly more restrained on follow through. Are these moves indicative of a change in sentiment and intent? Does a divided Congress creating gridlock on a range of policies represent 'risk on' and Dollar selling? It could check some of the more extreme efforts of the President, but it is unlikely to course correct on the general progress. Risk trends were already on the rebound in the week preceding this event and the Dollar faces a host of issues that have been conveniently overlooked (see my 4Q USD forecast in the Traing Guides page). Time and follow through will tell, but I think our focus should shift to more persistent and less politically-centric matters.

Now, On to the Economic and Financial Themes

If we want to evaluate the issues for which the composition of the US government could genuinely influence markets, there are a few areas that are overlooked and somewhat longer-term. On the downside, the pace of a second tax reform bill will likely slow quickly while the support for an infrastructure program can actually improve. Both measures add materially to a growing US deficit which threatens the United States sovereign credit rating. If we are looking for other concerns that can take up the reins for global markets, the US-China trade wars will offer fresh milestones to a continuously escaliting threat to global growth. This past session, China reported the October update to its foreign reserves. A $32 billion draw on the holding was the largest since January 2017 and signals authorities are tapping their reserves rather than allowing their currency to depreciate and further the trade wars into the territory of currency maneuvers. The 7.0000 figure for USDCNH will be monitored closely in the meantime, and Thursday's Chinese trade balance update will give an important data update on a critical theme. Another theme of note - and frankly one that is woefully underappreciated - are the sanctions pursued as a segue of the US-driven trade wars. As the EU weighs its options to rebuff the United States' threats to sanction any country that continues to do business with Iran, the healthy operation of the global financial system hangs in the balance.

A FOMC Decision's Impact on the Dollar and Risk Trends

Another crucial theme to the stability and bearing on global investor sentiment is monetary policy. While there have been some disappointing holding patterns from the likes of the RBNZ and tentative hawkish shifts from the BOC and BOE, the leader of the otherwise tentative drive to normalize extreme policy is the Federal Reserve. We are due a decision on US policy from this very group in the upcoming session. This particular meeting is one of the 'interim' events in which nothing by rhetoric is expected. There is still hefty speculation of a fourth rate hike this year (78 percent according to swaps), but the the chances of a move at this meeting remain deflated. In fact, the 13 percent probability of an additional 25 basis point increase this particular meeting looks excepitonally generous, but that may be the sentiment behind the markets spilling over into the pricing mechanism. A hold will not likely surprise anyone, but the verbiage that accompanies the decision can change views and positions. The balance of forecast from the members of the Fed is finally balanced for the fourth hike before year's end, so anything that tips that scale can prove market moving. The same is true of forecasts for 2019. The Dollar's gap down and lack of follow through this past session leaves the market ripe for a surprise in either direction. Further, don't forget the implications for risk trends. It may have been the case a few years ago that a rate hike was a move to 'pull back the punch bowl', but three years of successful tightening means an inability to continue would signal fear of instability.

Euro Awaits Its Next Italy Infusion, Pound Awaits Friday, Kiwi and Loonie Jolted

Outside of the Dollar and 'risk assets', there are plenty of other fundamental themes carrying our markets foreward. One such drive - without a clear timeline for updates - is the Euro's course set through Italy's budget standoff with the European Union (EU). We didn't have any explicit updates in this crumbling relationship this past session, but the Italian data on tap was certianly reason for worry. Italy has a deadline of Tuesday to resubmit its update budget proposal, but expectations have not be set high. The Sterling in the meantime is following a more pressing course. While the Brexit cut off date is some months away, the impact of Friday looms large. There is reportedly a second cabinet meeting scheduled for the end of the week to settle on a clear path for the UK government to take to the EU to find a path to agreement with the EU. Though there is considerable leeway for how this event can influence the market, it can effectively draw the Pound's attention away from scheduled data like the 3Q GDP and monthly trade balance updates. Other moves of note come from the commodity currency set. The New Zealand Dollar continues its advance through this past session though the RBNZ rate decision's added lift was modest at best. Their forecast for the first rate hike was moved marginally forward from 3Q 2020 to 2Q that same year, but the currency was already on the rise; so the news was met with a greater degree of enthusiasm. For the Aussie Dollar, the climb has been slower, but there is more targeted event risk in the Chinese trade update and the RBA monetary policy report. A remarkable contrast to this progress was the Canadian Dollar. Despite an actual hawkish policy bearing and an impressive manufacturing activity, the Loonie has dropped six straight sessions. We discuss all of this and more in today's Trading Video.

If you want to download my Manic-Crisis calendar, you can find the updated file here.