March Monthly

The dollar rose against most of the major and volatile emerging markets currencies, like the South African rand, Turkish lira, and the Brazilian real in February. The gains were mostly by default as concerns about the strength of the US economy continued to linger. The weakness abroad, especially in Europe, seemed more profound. Trade tensions ebbed as investors correctly anticipated an extension of the US-Chinese trade freeze, while the beginning of the EU-Japan trade agreement coupled with the prospects of Brexit suggest scope for a re-division of labor. China’s economic sluggishness is likely more responsible for the decline in global trade than the “globalization in reverse” meme, and its myriad of efforts to support the economy coupled with a record expansion of lending in January boosts the chances of the better economic traction in the coming months. The Federal Reserve is widely understood to be on hold, while its balance sheet operations continue. The European Central Bank will announce a new long-term loan facility that may be launched near mid-year. The Bank of Japan continues to slowly reduce the amount of bonds it is buying, but the soft economy limits its degrees of freedom ahead of the sales tax hike at the start of October.  

Dollar: US growth reached a cyclical peak in Q2 and Q3 18 when quarterly growth was annualized to 4.2% and 3.4% respectively. It slowed to 2.6% in Q4 and is expected to have slowed further in Q1 19 under the weight of the government shutdown, the unusually cold weather, softer growth abroad, fading fiscal stimulus, and the maturing business cycle. The US dollar’s resilience may be a function of worse economic impulses coming from abroad. After a difficult Q4 18, equities have rebounded smartly and the S&P 500 is the best performing major index. It appears that the erosion of financial conditions at the end of last year scared the Federal Reserve, which has since adopted a new mantra to re-assure investors of patience and flexibility. Operationally it means that the Fed will not raise interest rates in the coming months. We think a new opportunity may exist toward the middle of the year when the cross-currents will subside, and the underlying strength of the US economic will be more evident again. The recent minutes suggest an agreement in principle to end the balance sheet unwind by the end of the year has been reached, and details will likely begin emerging in the coming months. We maintain a constructive outlook for the dollar based on continued divergence. 

Euro: The euro averaged $1.1420 in January and about $1.1340 in February. It spent several sessions below the lower end of the $1.13-$1.15 range that has mostly confined the price action within a larger range of around $1.12 to $1.16 since the end of Q3 18. Poor economic data and somber assessment by the ECB weighed on the euro. At its meeting on March 7, with new staff forecasts in hand, which will likely shave growth forecasts again, the ECB may commit itself to a new round of targeted long-term refinancing operations. The new four-year loans will replace the outstanding loans made previously, thereby maintaining the ECB’s balance sheet and preventing distortions to the banks’ short-term funding ratios. Some new net borrowing is possible, as well. The details of the operation may not be announced until later in Q2. The eurozone expanded by 0.7% a quarter throughout 2017 and slowed dramatically last year. We suspect the worst is past and anticipate improvement beginning in March. 

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Read more by Marc on his site Marc to Market.

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