We have been of the opinion that Chair Janet Yellen’s action late last year in terminating quantitative easing and signaling the return to a more traditional Fed policy in normalizing interest rates marked a constructive change for Fed policy. To us this also signaled an early indication of the major redirection for global financial markets. As much as Europe and Japan have followed the US in economic policy, Yellen’s actions do signal that an end to zero interest rates may be in sight on a global basis in the not too distant future. The US being the world’s largest economy may likely be the early indicator for global central banks.
We continue to be bullish on global markets given certain events materializing. For the US, the major hurdle continues to be the repeal of Obamacare. Now that it is half done, its completion by the Senate has to be quickly followed by the much anticipated tax cuts. At the end of the day it is how secure the GOP will be come the 2018 elections.
Geopolitics is the current prevailing driving theme for financial markets. Europe is preoccupied with Brexit and elections as well as financial issues for countries such as France, Greece, Italy and Germany. Rising tension with Russia with the current focus on Syria dominate Washington’s relationship with Moscow. With regard to the US’s relationship with China, much is up in the air since President Trump has threatened to label China a currency manipulator many times over and currently is using trade as a leverage for China to pressure North Korea on the nuclear issue. The US is sending an aircraft carrier battle group to the North China sea in anticipation of any further nuclear tests on the part of North Korea.
The statement by Chair Yellen last week confirmed our belief since late last year that the Fed has finally started to normalize interest rates. Yellen’s announcement virtually assures a rate hike later this month.
Even though the language continues to be relatively moderate, advocating a gradual rise in rates to calm the market it should nevertheless be viewed as a ploy. Until such time that the yield curve is normalized, interest rates will be steadily going up.
With the radical departure in Fed policy and an entirely new political/economic outlook, I have some additional insights I would like to share with you.
The US just went through one of the most contentious presidential elections in recent history. With the surprise win of Donald J. Trump, the nation and thereby the world is geared for radical changes and direction.
As we approach the homestretch and start to focus on 2017, global economies will be confronted by numerous challenges and uncertainties. As the world’s largest economy, the US will not only be adjusting expectations and realizations for the next four years based on who will be occupying the White House but also whether the Federal Reserve will finally have the will to pull the trigger and restart its initial feeble attempt which began almost a year ago to normalize interest rates. Many issues will remain on the table after Election Day. As much as Hillary Clinton appears to be in the lead to win the Presidential elections, recent revelations courtesy of WikiLeaks tell a confusing tale as to which HRC will be running this country. In addition, Wall Street is extremely fearful of Donald Trump winning, especially because of his very vocal opposition to existing treaties on trade and his open complaints about Janet Yellen and the Federal Reserve.
The speedy selection of a new leader for the Conservative Party in Britain and her subsequent appointment as Prime Minister has rather quickly restored calm to global financial markets. Markets across the board whether directly or indirectly affected by Brexit were brutally savaged by the British vote. Normalcy has returned as the British political system proved its ability to withstand turmoil.
After struggling for most of President Obama’s two term presidency, the US economy has found its footing – albeit an anemic one – after such a long struggle. So therefore, in a global context this is truly a case of, “In the land of the blind, the one-eyed man is king.” However, many issues still confront the US economy, especially during this presidential election year. Clearly, Chairperson Yellen has been caught in a bind. With perfect 20/20 hindsight she should have pulled the trigger on normalizing interest rates much earlier in 2015. Nevertheless, there were numerous reasons as to why she did not. Uncertainties about the US economy prevailed until December of last year when she finally pulled the trigger and implemented a strategy to normalize interest rates. Whether this was too early or too late she now has to publicly scale back the four rate hikes for 2016.
“China Drags Down Markets.” This was the lead headline in the Wall Street Journal last Friday, January 8th that said it all. Global markets from the get-go this year were pounded by mostly panic selling. It was compounded by technical issues in the marketplace although fundamentals were largely stable. Given what had happened late last summer in China, everyone was tracking intensely what was going on in the Shanghai market. Those fears quickly broadened to a focus on the yuan, the Chinese currency, and a concern about Beijing’s diminishing foreign currency reserves. However, as we pointed out earlier, these reserves still stand at $3.3 trillion at the end of last year. I think in large part due to the current focus on outflows and the possible pressure of further devaluation of the yuan, the PBOC through our old friend Ma Jun who is currently the chief economist of its Research Bureau, stated that China should fix the yuan to a basket of currencies rather than a single one which is the dollar. Beijing’s quick response suggests that the Chinese are now much more attuned to market sentiment and is reacting correspondingly.