Forex markets appear to have diverged from the negative dollar trend to kick-start the fourth quarter. Throughout 2017, and especially in the third quarter, we saw significant downside pressures in the greenback and the losses have been lean and hard. With US president Donald Trump’s long-awaited tax plan released at the end of September, coupled with deteriorating sentiment across Europe, all of a sudden the prospects for the US dollar to close out the year on a more positive note seem far better than a few months ago.
The markets had been waiting a long time for Mr Trump’s master tax plan – and so had the Federal Reserve – and the president’s plans are quite ambitious to say the least. While it plans to deliver a 35 per cent tax rate for individuals, along with tax on corporates at 20 per cent, the standard deduction was also reduced to US$12,000 for individuals.
Early estimates indicate the initial plan will trim government tax revenues by more than $4 trillion over the next 10 years. Needless to say, there has been a lot of faction in Washington, and many parts of the original tax plan will not pass through legislature due to ever growing bi-partisan divide. If Congress can manage to come together to get the tax plan passed, the losses in government revenue would be closer to the $1tn to $1.5tn mark over the next 10 years.
The dollar benefited in a big way following the announcement and puts the ball back in the court of the Fed – which for the majority of the year had been waiting for the executive tax policy before deciding on their own US interest rates. With the grand plan revealed, markets have been pricing in a more active Fed with the next possible round of hikes taking place at their next meeting in December.
The US data docket has been rather solid to say the least as US output remains healthy – quarter-on-quarter gross domestic product came in at 3.1 per cent, well above the 1.2 per cent – and despite a negative print on the most recent jobs report this past Friday because of hurricane Irma, it was the beat on the wages growth number which showed price pressures are inching higher.
For the most part of 2017 the Fed was not in a position to act due to largely lagging US price pressures – and the increase in average hourly earnings (0.5 per cent versus 0.2 per cent previously) further sparked optimism that the Fed could be closer to a December hike. This Friday’s headline US inflation (due out at 4.30pm Dubai time) is expected to show that year-on-year inflation increased to 2.3 per cent, up from a previous 1.9 per cent, while the month-on-month figure is expected to grow to 0.6 per cent versus a previous reading of 0.4 per cent.
If the figures come in line with expectations, expect to see further buying support in the US dollar through the next two weeks.
The euro continued sliding lower against the greenback, closing four consecutive weeks lower on Dubai Gold & Commodities Exchange (DGCX). The currency has been bogged down by political uncertainty emanating from Spain and volatility will be rife when Catalan president Carles Puigdemont addresses parliament on the future of the region today. While he remains under significant pressure to back down from all quarters of Europe, it is difficult to predict. If the Catalan parliament continues its push for independence at this critical juncture. DGCX’s Euro/USD contract looks poised to make a strong test of 1.16 levels in the weeks ahead.
The British pound also remained weaker against the Greenback amid more political turmoil in the incumbent Tory party. Prime minister Theresa May had been under pressure the past few weeks from within her party to step down however, this seems to have been averted for the time being. Expect weakness to continue in the pound based crosses, with DGCX’s British pound contract to move below 1.30 in the weeks ahead.
And finally, crude oil moved below $50 a barrel for the first time in three weeks. US oil production has ramped up to two-year highs and the largest Libyan oil field is back online.
This sudden shot of supply has shaken crude longs and should see crude prices trade sluggishly with a slight bearish bias in the weeks ahead. Expect to see upper resistance coming in at $52.50 levels through the weeks ahead with initial support coming in at $48.50 followed by $47.50 levels.
Gaurav Kashyap is a market strategist at EGM Futures