Friday, October 20, 2017

"Tax Prospects Lift Rates and Dollar Ahead of Weekend"

From Marc to Market:
The US Senate approved a budget resolution that is a necessary step toward using a parliamentary maneuver that prevents the Democrats to block tax reform by filibuster. This has helped spur dollar gains against all the major currencies and nearly all the emerging market currencies. The US 10-year yield is extending this week's rise. It was up four basis points on the week coming into today, and it is up another four basis points today, to once again approach the upper end of its six-month range.

While parliamentary maneuvering by the minority party was a threat, since the attempt(s) to repeal and replace the Affordable Care Act, the biggest challenge lies in the differences within the majority party. The Senate vote and the House agreement to vote on that bill as well shows greater coordination. We caution that there are many moving parts and many details that have yet to be worked out and time is of the essence for the debt ceiling and spending measures.

Politico initially reported that Trump was leaning toward Powell to succeed Yellen at the Fed's helm. Bloomberg is reporting that Trump's advisers were encouraging Powell or Taylor. Previously, reports indicated than Treasury Secretary Mnuchin favored Powell. PredictIt has Powell drawing ahead at a little better than a 2:1 favorite. Yellen is second at about one-in-six chance. Taylor has slipped to a one-in-seven chance.

The notable move this week regarding Fed expectations was not just who will get the nod, but terms of the trajectory of Fed policy. The implied yield on the December 2017 Fed funds futures contract rose a single basis point this week to 1.27%. Our work suggests fair value, assuming no chance of a hike in November and fully discounting a December hike, is 1.295%. The more significant change took place in the December 2018 contract. Its' implied yield rose six basis points to 1.68%. This means that one hike next year is fully discounted. The Fed's forecasts suggest that three hikes may be appropriate.

The market has also been confident of a Bank of England rate hike next month. We have been less convinced on the grounds that this is not the first time or even the second time that Governor Carney and the MPC have sounded as if they were prepared to hike and then pulled back, and that the price cycle is peaking as the economy is slowing. Now, MPC member Cunliffe has joined Ramsden injecting a little more doubt in the market's mind about the timing of the move. The yield of the December short sterling futures contract did test a two-week lower today was have recovered and is now down one basis point on the week.

Germany's Merkel provided UK Prime Minister May with a glimmer of hope. Merkel's comments were among the most positive from officials that progress is being made and hold out the possibility (likelihood?) that sufficient progress will be made to take talks to the next stage. It appears that a greater financial commitment from the UK could get the ball rolling....MORE