2016 Market Movements Before and After the U.S. Election

December 29, 2016

The U.S. election on November 8th was a turning point for many financial market instruments.

The ten-year Treasury yield had declined 41 basis points to 1.86% between the end of 2015 and the election. This was twice the net increase registered in calendar 2015. Since the election, the yield has climbed 63 basis points.

Since the U.S. election, the Canadian 10-year yield has recorded a sharp increase as well of 45 basis points. However, net 10-year sovereign debt changes have been considerably smaller in Germany and Britain (down one basis point), Japan (+8 basis points) and Switzerland (+13 bps). In each of these instances, the end-2016 long-term interest rate level will be considerably lower than at end-2015.

Since the U.S. election, the dollar has appreciated 15.3% against the yen, a currency against which it posted a 15.8% decline previously this year. The dollar has also risen 7.9% against the Australian dollar, 6.5% versus the New Zealand dollar, and 7.3% vis-a-vs the Swiss franc and 4.3% relative to the euro since the election, but appreciation against the loonie of 1.9% and sterling of 1.0% has been considerably more contained. A dollar advance of 2.5% relative to the Chinese yuan since the election has exceeded half as much as the amount of cumulative gain in the 10+ months of the year before that point, and it extends a trend that saw the U.S. currency rise 4.6% during 2015.

Like the yen, Japanese equities were whip-sawed very sharply by the U.S. election result. The Nikkei-225 index had dropped 9.8% in the period this year before the election but has risen 11.5% since it. The U.S. S&P 500, by comparison, has risen just 5.3% since the election, just slightly more than its 4.7% improvement between end-2015 and November 8. Since the election, the DAX has performed almost as well as the Nikkei, rising by 9.3% on top of advances of 2.4% this year before the election and 9.6% during 2015.

Gold and oil were affected differently by the election. West Texas Intermediate crude oil had already risen 19.9% by November 8, reversing much of a 29% drop during 2015 but unwinding far less of oil’s plunge since June 2014 from triple-digit levels. The impressive recovery of oil since the election totals 19.9%. Gold, on the other hand, had risen 19.1% from end-2015 to November 8 but has fallen 9.9% subsequently. Gold also dropped 9.8% during 2015 and last week touched its lowest levels since very early last February.

Perceived fiscal and monetary policy discrepancies account for an important part of the U.S. election’s financial market influence. A Republican-controlled congress has produced a very stingy fiscal policy, with government spending rise just 0.6% per year on average over the past three years even as real GDP slowed from 2.9% in the year to 3Q14 to 2.2% in the subsequent four quarter and 1.7% over the last four-quarter period. All that’s going to change now with corporate taxes getting cut sharply and infrastructure spending rising. A looser fiscal policy, moreover, will justify a tighter monetary policy, and the presumption is that the Federal Reserve in 2017 and 2018 will authorize more than the single 25-basis point interest rate hikes done in 2015 and 2016.

A year ago, markets also expected the Fed to accelerate the pace of tightening in 2016. So did most FOMC officials at that time. It didn’t happen and didn’t matter, either, from the dollar’s perspective. The U.S. currency appreciated anyway, because monetary policies at the ECB and Bank of Japan were in a more accommodative mode than the Fed’s stance. The ECB’s already negative deposit rate was lowered by 10 basis points, and the BOJ introduced a negative interest rate, too. Both central banks employ quantitative stimulus.

The election of Donald Trump introduces a whole different reason for dollar bullish sentiment. His zero-sum view of competition in all matters of foreign and economic policy means that success will be measured in relative terms and that policy changes will evolve in a live-and-let-die way to ensure that America does comparatively better against just about everybody. U.S. growth may not pick up as much as now projected. The acceleration seen in 3Q16  could prove temporary and be followed by deceleration. The safest bet, nonetheless, is that the gap between U.S. growth and performance elsewhere will become more U.S.-advantageous. In the year to 3Q16, real GDP in Euroland and the U.S. each went up 1.7%, while British and  Japanese output climbed 2.3% and 1.1%.

The above logic serves better as an explanation for why U.S. consumer sentiment, business sentiment, and dollar sentiment have become increasingly upbeat. The United States is about to change in all sorts of ways, and the more uncertainty one creates, the more uncertainty one is sure to get. America’s previous experiment with monetary and fiscal policy pulling sharply in different directions in the 1980s led to dollar euphoria in the marketplace. The dollar had soared 10% in the first two months of 1985, leading to stories then that the sky was the currency’s limit. To be sure, the dollar this time has not had as long or as extensive a rise as it had had by early 1985. The point is that market sentiment can often be a lagging indicator fundamental economic trends, and extremely confident views about where foreign exchange is heading should be taken with some caution. When highly reputable magazines like the Economist run a cover story featuring a body-building George Washington dollar bill, it’s time to question if that image says much more about the past month or two than about the likely future. In foreign exchange predicting, one should never feel too comfortable running with the crowd.

Copyright 2016, Larry Greenberg. All rights reserved. No secondary distribution without express permission.

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